LIBRARY 
 
 OK THE 
 
 University of California. 
 
 Class 
 
BUSINESS ADIVUNISTRATION 
 TEXT BOOKS 
 
 Business Economies. 
 
 Business Organization and Management. 
 
 Advertising and Salesmanship. 
 
 Trade and Commerce. 
 
 Transportation. 
 
 Money, Banking and Insurance. 
 
 Investments and Speculation. 
 
 Accounting. 
 
 I Auditing and Cost Accounting. 
 
 Business Law and Legal Forms. 
 
BUSINESS 
 ADMINISTRATION 
 
 {THEORY, PRACTICE AND 'APPLICATION. 
 
 Editor-In-Chief 
 
 Walter D. Moody 
 
 General Manager, the Chicago Association of Commerce, 
 Author, "Men Who Sell Things." 
 
 Managing Editor 
 
 Samuel MacClintock, Ph. D. 
 
 Editorial and Educational Director, 
 La Salle Extension University 
 
 This work is especially designed to meet the practical everyday needs of 
 the active business man, and contains the fundamental and basic 
 principles upon which a successfid business is founded, con- 
 ducted and maintained. To those looking forward to 
 a business career, this work forms the basis 
 for a practical and systematic course in 
 "Business Administration" 
 
 published by 
 LA SALLE EXTENSION UNIVERSITY 
 
 CHICAGO 
 OF THE 
 
 UNIVERSITY 
 

 m^W 
 
 Copyright. 1910, 
 L.ASALLB EXTENSION UNIVERSITY. 
 
ACCOUNTING 
 
 ^ This treatise has been especially prepared by Henry 
 Parker Willis, Associate Editor, Journal of Accoun- 
 tancy, Editorial Staff, New York Journal of Commerce, 
 and Professor of Finance, George Washington Uni- 
 versity. It is supplemented by the writings of certified 
 public accountants, auditors and expert bookkeepers. It 
 is a popular and authoritative exposition of the theory 
 and practice of accounting, according to the best pres- 
 ent-day standards, and contains many concrete ex- 
 amples, practical ideas and helpful suggestions. This 
 volume and its companion work on Auditing and Cost 
 Accounting contain the information leading to the Cer- 
 tified Public Accountant examination. The work is 
 arranged to serve as a guide and reference, and in- 
 cludes a complete table of contents, a comprehensive 
 index and test questions. 
 
 Walter D. Moody, 
 
 Editor-in-Chief. 
 
 O i\ Q •<* Q ^ 
 
INTRODUCTION TO BUSINESS ADMINISTRATION. 
 
 BY WALTER D. MOODY. 
 
 General Manager, The Chicago Association of Commerce. 
 Author of "Men Who Sell Things." 
 
 *'The recipe for perpetual ignorance is: Be satisiied with your own 
 opinion and content with your, knowledge." 
 
 This is an era of the greatest commercial ac-» 
 
 Business a contest tivity the world has ever known. The deveU 
 
 of wits - opment of business is one of the marvels of 
 
 the new century. ^K few years ago science, 
 
 as a factor in commerce, was little known and less appreciated. The 
 
 amazing advantages to business of Intellectual attainments were utterly 
 
 without recognition. Today, however, business has become a contest in 
 
 which the quickest perception wins, thus transforming the counting room 
 
 into a battle ground upon which brain matches brain for supremacy and 
 
 success. 
 
 Jhh, that enchanting word, S-U-C-C-E-S-S. It 
 Success— educated does not require a magic key to unlock the 
 enthusiasm < door to business efficiency. There is nothing 
 mystic, nothing mysterious in the applied 
 method of the really resourceful men in this day of great successes, of 
 marvelous achievements in business enterprise. The sum total is con- 
 tained in two words, words that electrify, nevertheless. EDUCATED 
 ENTHUSIASM. 
 
 The most formidable barrier to progress has 
 Changing conditions always been the senseless opposition of those 
 make to whom it would be of the greatest benefit. 
 
 opportunities Changing conditions are the order of the day, 
 
 for enlightenment has worked wonders. In 
 olden times, a man of affairs was obliged to guard his property and his 
 loved ones by building a moat around his house and posting sentinels in 
 and around his estate. The time is not long past when, because of preju- 
 dice, perversity or ignorance, many men believed that opportunity knocked 
 only once at any man's door. Today, thanks to deeper insight, most men 
 beheve that life itself is opportunity; that the very air we breathe is 
 opportunity ; that each new day presents broader opportunities for accom- 
 
INTRODUCTION! 
 
 pushing more Because of better directed energy," Tfiis is~not alone the 
 
 accepted dogma of the man who is making his way in the world. It is 
 the creed, doctrine, tenet or religion, whichever you may care to term it, 
 of the great captains of industry everywhere. 
 
 The more successful the man, the more does 
 New ideas county he think, study, plan, as a part of his daily 
 occupation in the development of the affairs in 
 which he is interested. Newer and better ways to get things done is the 
 business standard employed today by successful men in all lines. Only 
 yesterday if a man of genius advanced a new idea, he found himself 
 ridiculed and his innovation opposed on all sides because it was a new 
 idea. Today, it is different. The man of ideas counts in the trend of 
 affairs as he has never counted before. 
 
 Everything has a subjective reason. Progress 
 Must keep step with is acting as a mighty dynamic force in chang- 
 changing times ing men's viewpoint of life and things. Sup- 
 
 pose the stroke oar on a varsity crew, while in 
 a race against an opposing crew from a competitive institution, should 
 suddenly stop rowing in harmony with his associates and begin to row 
 backwards — ^that crew would not get very far without trouble. Suppose 
 a lawn mower should be reversed and forced to run backwards — there 
 would not be much progress made in cutting grass on that lawn. Varsity 
 crews and lawn mowers must move forward. Business men must ad- 
 vance with the times. 
 
 A great merchant in Chicago tells a good story of his youth. He was 
 a member of a state regiment of militia. On a certain occasion, his com- 
 pany was sent out on dress parade. An old maiden aunt, with consider- 
 able colonial blood in her veins, took much pride in her nephew and his 
 company. While reviewing the parade, she was suddenly heard to ex- 
 claim : "Why, every single man in that company is out of step excepting 
 my nephew." Most men who fail to get on in the world do not realize 
 that success lies in keeping step — in making progress with changing condi- 
 tions. They generally make the mistake of thinking that the world and 
 everything in it is out of harmony with themselves. 
 
 A business man of successful experience rea- 
 New ideas worth lizes that ideas — newer and better principles of 
 searching for conducting business — are of the greatest value, 
 
 and he also knows that it pays him to search 
 for them. The same old way of doing things cannot longer be success- 
 fully employed month after month and year after year as under the old 
 regime. The business man must be modern, up-to-date. The physician 
 or lawyer finds that to compete successfully he is compelled to search 
 
INTRODUCTION 
 
 without ceasing in order that he may comprehend the advancement in 
 treatments or procedures. "To the man who fails belong the excuses.'* 
 
 President James, of the University of Illinois, 
 
 'Demand for trained was asked if there was any demand .from busi- 
 
 men ness houses for college-bred men. His reply 
 
 was : "The demand has been far in excess of 
 tHe supply since courses in business administration were established in 
 our institution seven years ago. Each year has brought many more 
 requests than we have men to recommend." Ten years ago President 
 James would have been ridiculed for advancing this new idea for the 
 establishment of a school of commerce in connection with a university. 
 Today, commercial schools are a part of the regularly established courses 
 of nearly all of the great universities of our country. Men trained in the 
 theory, practice and administration of business will always occupy the 
 (best positions and will always command the greatest salaries. 
 
 All men fail at times in the accomplishment of 
 
 Value of new ideas satisfactory results in the various enterprises 
 
 in in which they are engaged, without being able 
 
 business emergencies to give an explanation. The principles that 
 
 have been applied successfully for many 
 years seem apparently to Have counted for nothing. It is frequently evi- 
 dent that in such cases a very insignificant thing, a mere oversight per- 
 chance, has been the direct cause of the failure. To be able to put the 
 finger on the precise cause of the lack of success in one's method would 
 locate the cause of the disaster. Then it is that a real appreciation of 
 new ideas is fully realized. 
 
 Failure is more often chargeable to a refusal 
 
 Men paid for what to learn by mistakes how to avoid them than it 
 
 they know — ^not is in making them. Experience is a good 
 
 for what they do teacher, but who can deny the value to be 
 
 gained in learning from the experience of 
 OtHers, for we cannot all have the same experience or the same view of 
 similar experiences. There are many pathways to success, but the road 
 of individual experience is narrow and rugged. It is a commonly ac- 
 cepted fact that for every ten dollars ^ high-salaried man draws, he re- 
 ceives nine dollars for what he knows and one dollar for what he does. 
 On the same basis the successful business man, employing a large force 
 of other men, realizes that his own greatest worth, as applied to his 
 affairs, lies not so much in what he can do himself as how much he can 
 encourage his employes to do. In either case, his own personal knowl- 
 edge is the power behind the throne. 
 
INTRODUCTION 
 
 The man who would secure the largest net re- 
 Knowledge in excess turn from his individual effort in the field of 
 of present needs endeavor, and he who would realize the great- 
 necessary est possible advantage from the efforts of 
 those under his command must, of necessity, 
 possess knowledge — indispensable perception far in excess of the needs of 
 the moment. Discernment, like a bank account, soon runs out if it is 
 overdrawn or if it is not continually replenished. In business the "check- 
 ing system" of knowledge is the sort of account that pays best — not 
 the "savings account system." Knowledge that is simply corked up and 
 allowed to accumulate cobwebs and rust can avail nothing. The sharpest 
 vinegar is procured by constantly replenishing the old stock with new. 
 
 Reliable statistics prove that only about ten 
 
 90% failures per cent of all people who engage in business 
 
 vs. are successful and make money; the other 
 
 10% moneymakers ninety per cent become insolvent and fail. 
 
 That is, they do not actually encounter the 
 
 sheriff, or go into the hands of a receiver, but they fail nevertheless to 
 
 succeed in the sense of making money, and what other possible reason 
 
 can anyone have for engaging in business if not to accumulate money? 
 
 JWhy do so many fail? Ask any credit man 
 Failures due to lack and he will tell you that it is not because of 
 of intellectual the lack of capital, or other material resources, 
 
 capacity but 'it is due primarily to a lack of intellectual 
 
 capacity, the sort of brains that dig and work 
 and sweat until they find a way to accomplish things ; brains that go to 
 the bottom of things; brains that are always looking for better results; 
 brains that never abandon a problem until they have found a way to 
 solve it. A friend once told me that he inquired of the manager of a 
 house employing some three hundred traveling men how many salesmen 
 they had. The manager replied, "Three." My friend asked, "How's 
 that? I am told your force of traveling men numbers nearly three hun- 
 dred." "Ah, that is quite different," replied the manager ; "we have two 
 hundred and ninety-seven traveling men, but only three salesmen." 
 Quite likely that manager's estimate was intended to be taken figuratively 
 rather than literally,but It serves to illustrate the fact that in this great 
 United States there are millions of men, young, middle-aged and old, who 
 are content to plod along in a mediocre sort of way, heedless or unmindful 
 of the fact that opportunity, knowledge, possibilities, are calling, calling, 
 calling to them to come up higher. There are hundreds of thousands of 
 other men engaged in business who sit idly by while their trade, like the 
 
INTRODUCTION 
 
 sands in the hour glass, slowly ebbs away, and eventually is absorbed by 
 their more progressive business neighbors. 
 
 There is still another vast army of business 
 Moneymaking and men — salesmen, clerks and wage-earners of all 
 business literature classes — who are beginning to catch a glimpse 
 of the dawning of a new business era, the 
 greatest the world has ever known, an era impregnated with possibilities 
 and opportunities for those who are ready with wicks trimmed and oil 
 in their lamps. To the earnest latter class which is really desirous of 
 profiting by the experience of others, there is no need of elaborating the 
 possibilities embodied in this course of reading in Business Administra- 
 tion. This set of books, containing valuable business data on many sub- 
 jects, thousands of pages telling the story of success illustrated by trained 
 men whose names are respected everywhere, is intended to reach all 
 classes. There is absolutely nothing in print that can even approach or 
 can begin to compare with it In value as a reference library for business 
 men or excel it as a complete course of Instruction for any man desirous 
 of making the best of his possibilities and opportunities in the kaleido- 
 scopic age through which the business world is now moving. 
 
 The more practical the Ideas, the better the 
 Practical ideas best basis for good work. Not long since, busi- 
 ness men generally pooh-poohed the idea of 
 employing In the conduct of their business anything new, which was taken 
 from the writings and experience of others, such as Is contained In this 
 remarkable series, contributed to by some of the brightest minds in the 
 business world today. There is, however. In these days unmistakably a 
 hungering and thirsting for just this new sort of literature. It fills a long- 
 felt need — fills it exactly, completely, satisfactorily. Being the author of a 
 work on salesmanship which has had a countrywide circulation, I hare 
 been literally besieged by business men everywhere asking me to recom- 
 mend books treating of successful business methods, and have been cha- 
 grined to find how limited was the supply. The man who formerly was 
 prejudiced against such sources of information must now step aside 
 and make way for progress or unite with the popular demand for more 
 education and better methods. 
 
 Show me the man who says he has no pa- 
 
 Cannot afford tience for such things, and I will show you a 
 
 vs. man, like the stroke oar and the lawn mower, 
 
 can afford who does not believe in moving forward in 
 
 progress. Show me the man who says he has 
 
 no time to read of new methods and principles, and I will show you the 
 
 one who utterly fails to perceive that familiarity with business literature 
 
 of this kind means pecuniary advancement. Show me the man who says 
 
iLNTRODirCTION 
 
 he cannot afforS to invest in such a set of books, and I will show you 
 one who apparently CAN afford to waste his energy in misdirected 
 effort — that energy and effort which are to every wage-earner and 
 tradesman both his stock in trade and his invested capital. 
 
 Someone has said, "There are three kinds of 
 Failures people in the world — ^the Can'ts, the Won'ts 
 
 unnecessary and the Wills. The first fail at everything; 
 
 the second oppose everything; the third suc- 
 ceed at everything." I would add a fourth kind — the largest class of all 
 — the Don't Trys, the "Oh-what's-the-use/' "It-doesn't-interest-me" sort 
 of people. Their name is legion ; their fault is lack of confidence. Knowl- 
 edge is the greatest inspiration of confidence to be found on earth. You 
 may not personally be held in the hope-paralyzing bondage that produces 
 the "Oh-what's-the-use," or *T'm-not-interested" germ, but if you are not, 
 you are exceptional. Most people are, and that is the reason that such 
 persons are just about what luck, good fortune or chance make them, 
 succeeding if fortune favors them, failing if they are left to depend upoa 
 their own resources. Result : Nine fail where one succeeds. 
 
 It is very fortunate, indeed, for most men that so much of their happi- 
 ness depends upon success. There is nothing on earth quite so terrible 
 to think of as failure, especially that due to lack of effort, unless possibly it 
 be the failure of a man who lacks the courage or initiative to try to make 
 the most of himself, and thus lets his best opportunities escape him. And 
 this last is really the most pitiful thing that can befall a man. It is well 
 enough to plan opportunities, but if we had the wisdom to take advantage 
 of such opportunities as naturally come to us, results would more often be 
 found in the balance on the right side of the ledger. And so I am of the 
 opinion that a clear explanation of why a very large class of people do not 
 succeed is found in some of these expressions — "I don't care," "I can't," 
 "It doesn't interest me/' or "Oh, what's the use." 
 
 One of the great objects set forth in this 
 Basis of all busi- Business Administration series is to supply the 
 ness success positive energy which begets courage, confi- 
 
 dence, initiative and success. We want to 
 make you feel the necessity of doing some reading, a little plain think- 
 ing, and to make as clear as possible the important things that are in- 
 volved in the serious but very fine game of business. 
 
 With business becoming with each succeeding day more and more of 
 a science, it is high time to understand what is essential to it. Speaking 
 of the subject of "Organized Business," a great authority recently said, 
 *'It is time even for business men to understand business." Again, the 
 purpose of this course in Business Administration is, if possible, to meas- 
 ure the power and principles of business, to trace their ramifications, de- 
 
INTRODUCTION 
 
 fine their elements, get hold of their vital fundamentals, and so compre- 
 hend them, both in technical detail and as a mighty unit. And I am confi- 
 dent we have done all this. I find that at the foundation, the machinery 
 of business is simple, but whether it is plain or complicated, all who would 
 succeed must make every effort to comprehend it thoroughly. All I 
 care to emphasize at present is the great truth that knowledge, estab- 
 lished and classified, is the basis of all business success. This is clearly 
 established in this course of reading, and I am trying to incite your 
 imagination in writing of its merits just as I would endeavor to enable 
 you to realize it if I could talk to you personally right across my desi?. 
 The observant man can see clearly the things I am talking about, but to 
 most men the mind's eye perceives not by observation, but only when the 
 imagination is stimulated. So I would stir all men to look earnestly into 
 these things, with a view to their personal betterment. 
 
 Business is far more than business as it is com- 
 
 'Business axioms monly understood. It is a science, and it is 
 
 simple to the eager, practical minds of business men that 
 
 understand we shall endeavor to convince first of that 
 
 fact, and our reasons for addressing those 
 principally concerned are especially good. Why? I have found that in 
 writing about business whenever I was able to make the principles so 
 plain that business men understood them, everybody else did, so it is to 
 be expected that if business axioms can be made simple enough for busi- 
 ness men to understand them, everyone will apprehend them. Every- 
 body^. 5\nd it is everybody that we are attempting to reach. 
 
 For nearly thirty centuries men have recog- 
 
 Knowledge is nized the concrete wisdom of Solomon's prov- 
 
 power erb: "A wise man is strong; yea, a man of 
 
 knowledge increaseth in strength.'^ Yet we 
 liave been slow In making its application universal to the race. But we 
 are beginning to understand that the power inherent in knowledge applies 
 as well to commercial and industrial as to scholastic, political and social 
 life, as well to the counting room as to the pulpit, as well to the shop as 
 to the university, as well to the farm as to the bar. Knowledge is power 
 and is the only source of real intellectual sovereignty that the Creator has 
 ever entrusted to men. 
 
 In conclusion, I would say that these words are addressed to the 
 business men of Kmerica, and this designation includes the banker and 
 his clerks, the farmer and his sons, the lawyer and the law student, the 
 financier and the man who sells bonds and stocks, the merchant and his 
 clerk, the accountant and the bookkeeper, the manager and his assist- 
 ants — the ambitious young men of the Twentieth Century type, contem- 
 plating the pursuit of any business, trade or occupation. 
 
CONTENTS 
 
 ACCOUNTING. 
 
 PART I. 
 
 Page. 
 The Principles of Accounting. 
 
 By Henry Parker Willis 1 
 
 Introduction — 1 
 
 I. Fundamental Ideas — 2 
 
 Nature of Commerce — What is Accounting — Relation to Economics — 
 What is Bookkeeping — The Accounting Profession — Development of 
 Accountancy — Scope of Accountancy Examinations. 
 
 II. Construction of the Account — 9 
 
 Object of the Account — Classification of Facts — Losses and Gains — 
 Debtor and Creditor — Nature of the Account — The Accounting System 
 — Accounts Reviewed — The Accounts of John Smith. 
 
 III. Keeping the Books — 24 
 
 Practical Problems — Traditional Books — The Ledger — The Journal — 
 Classification of Books — Classes of Ledgers — Other Books — Relation 
 Between Books — Balancing and Closing — Technique of Closing — Bal- 
 ance Sheet. 
 
 IV. Capital— 43 
 
 The Capital Account — How Capital is Contributed — Corporation Capi- 
 tal Accounts — Stock Retained-^Payment for Stock — Payment for 
 Bonds. 
 
 V. Cash Account — 54 
 
 Theory of Cash — Modern Means of Payment — The Bank and the 
 Check — Use of Commercial Paper — Process of Discount — Bills Dis- 
 honored — Bills Payable — Relation Between Cash and Quasi-Cash Ac- 
 counts. 
 
 VI. Goods Accounts — 68 
 
 Nature of Goods — Goods on Invoice — Goods Returned — Consignments 
 — Trading Accounts — Closing Inventory. 
 
 VII. Plant and Property Accounts — 83 
 
 Relation to Preceding Discussion — Plant and Property Accounts De- 
 scribed — Depreciation — "Wilting Down" the Assets — "Writing Down" 
 not always Satisfactory — Depreciation Reserve — Choice of Methods — 
 Causes of Deterioration — Estimating Depreciation — Example of In- 
 surance Policy — Appreciation. 
 
 VIII. Manufacturing Accounts — 103 
 Special Problem of Manufacturing — Organization of Accounts — Pecul- 
 iarity of Manufacturing — Technical Profit or Loss — Selling the Goods — 
 Contents of General Ledger — Aids to the Accounting — Analysis of 
 Business. 
 
 IX. Cost Accounting — _ 122 
 
 Reason for Cost Accounting — Object of Cost Accounting — Simple Cost 
 Accounting — Individual Cost Sheets — Cost Accounts in the General 
 Books — Cost Books — Cost Ledger — Analysis of Costs — Bases of Cost 
 Accounting — Selecting a Cost System — Accounting Controversies. 
 
ii CONTENTS 
 
 X. Profit and Loss Accounts — 144 
 
 Relation of Profit and Loss to Business — General Profit and Loss Ac- 
 counts — Sections of Profit and Loss — Uses of Profit and Loss Account 
 — Income and Expenditure — Income Sheet of a Railroad — Business 
 Results — Profit and Loss Analysis — Declaration of Dividends. 
 
 XL The Balance Sheet — 161 
 
 Object of the Balance Sheet — What are Assets and Liabilities — Pre- 
 paring the Balance Sheet — Form of Balance Sheet — Grouping the Items 
 — Interpretation of Balance Sheet — Capital and Revenue Items — State- 
 ment of Affairs. 
 
 XIL Auditing and Reporting — 184 
 
 Object of ail Audit — Checking the Accounts — Protection Against Fraud 
 — Responsibilities of Auditor — Report on Condition of Business — Ex- 
 amples of an Audit — Analysis of Accounts — The Auditor's Report. 
 
 PART II. 
 
 Introduction 207 
 
 Works for the Study of Accounting 210 
 
 Accountancy Examinations 211 
 
 Examinations on the Theory of Accounts 225 
 
 Accounting Terminology 245 
 
 Some Recent Changes in Government Accounting. 
 
 By Henry Parker Willis 315 
 
 Corporation Tax Regulations 348 
 
 The Federal Corporation Tax and Modern Accounting Practice. 
 
 By A. M. Sakolski 367 
 
 Primer on Cost Keeping 387 
 
 Some Principles of Cost Accounting. 
 
 By Ernest Reckitt 415 
 
 People Ex Rel. Manhattan Railway Co. v. Barker 430 
 
 City of Knoxville v. Knoxville Water Co 437 
 
 Wilcox et al. v. Consolidated Gas Co 440 
 
 The Balance Sheet of a Railway 465 
 
 The Accounts of a Telephone Company 494 
 
 Quiz Questions 525 
 
THE PRINCIPLES OF ACCOUNTINa 
 
 BY HENRY PARKER WILUS, Ph. D. 
 
 fBorn Weymouth, Mass., 1874; B. A., University of Chicago, 1894; Student 
 University of Berlin. University of Leipsic, University of Vienna, 1896-7; 
 Ph. D., University of Chicago, 1898; Assistant Indianapolis Monetary Commis- 
 sion and Joint Author of its Report, 1898; Adjunct Professor Economics and 
 Politics, Washington and Lee University, 1898-1901; Editorial Writer New- 
 York Post and Nation, 1901-1902; Wilson Professor of Economics and Poli- 
 tics in Washington and Lee University, 1903-6; Editorial Writer and Wash- 
 ington Correspondent. New York Journal of Commerce and Commercial Bul- 
 letin, 1906 — ; Professor of Finance George Washington University, 1906 — ; 
 Associate Editor, Journal of Accountancy.] 
 
 PART I. 
 
 INTRODUCTION. 
 
 The following pages have been written for the purpose 
 of setting forth the general principles upon which modem 
 accounting systems in the broad sense of the term are or- 
 ganized. Comparatively little attention has been paid 
 to bookkeeping as such, therefore, the treatment offered 
 in Sections II and HI being intended simply to afford a 
 basis or setting for the theory of the account and its rela- 
 tion to the traditional or conventional books of account. 
 While it has not been attempted to go, in detail, into all 
 of the books that are customarily employed, or to give 
 forms representing more than a very few of them, it has 
 been sought to present enough elementary descriptive mat- 
 ter to make plain the theoretical treatment in its applica- 
 tion to the bookkeeping side of the subject. On the other 
 hand, it has been attempted to avoid purely abstract dis- 
 cussion of the philosophy of accounts and to emphasize the 
 discussion of the principles upon which actual accounting 
 is founded. The reader who has not already made a study 
 of bookkeeping technique should read in conjunction with 
 this discussion some work on practical bookkeeping. A 
 
 1 
 
 B— VIII— 1 
 
2 HENRY PARKER WILLIS 
 
 list of available works on arccounting and bookkeeping is 
 afforded in Part II, p. 210, of the present volume. 
 
 I. FUNDAMENTAL IDEAS. 
 
 Nature of Commerce. 
 
 The process by which economic relations between men 
 are carried on is ordinarily known as trade or commerce. 
 Such commerce consists of the exchange of goods against 
 goods, services against services, services against goods, or 
 any one or all of these against money. In practice, civ- 
 ilized societies state all transactions in terms of money, 
 and even where an interchange of goods takes place upon 
 what amounts to a basis of barter, the operation is usually 
 reduced to terms of money, and thus a common denom- 
 inator designed for the purpose of rendering transactions 
 readily comparable is adopted. The fact that in practice 
 such a common denominator is in this way accepted and 
 that every transaction is reduced to a money basis, renders 
 it possible to institute comparisons of commercial transac- 
 tions which shall show what the net outcome of a complex 
 process of buying and selling is. At the same time, the 
 complexity of such a process of buying and selling in dif- 
 ferent quantities and to different individuals as well as at 
 different rates, renders it imperative that an individual or 
 group of individuals engaged in the process of interchang- 
 ing goods or services with others shall have some system 
 whereby operations are regularly recorded. If there were 
 no such system, confusion would exist as soon as the vol- 
 ume of the transactions handled at all exceeded what could 
 be readily carried in a single memory. Moreover, as soon 
 as transactions reach a somewhat developed stage, it be- 
 comes evident that a mere straightforward record of what 
 has been bought and what has been sold does not suffice 
 to indicate the true position of the owners of the goods. 
 Economic institutions, such as banking, transportation, 
 
THE PRINCIPLES OF ACCOUNTING 3 
 
 and tlie like, involve readjustments of relationships be- 
 tween traders whieh necessarily have to be represented 
 in some way more or less corresponding to the complexity 
 of the subject-matter, although aiming at the ultimate re- 
 duction of these complexities to a final simplicity. 
 
 What Is Accounting? 
 
 The body of principles under which business transac- 
 tions are thus recorded in an orderly form and in their 
 proper relation to one another, is called accounting. Ac- 
 counting is a science which aims at the systematic pres- 
 entation of business facts and whose rules are designed 
 to indicate or state the principles upon which such a record 
 of business facts must be made. In current discussion, 
 there is a good deal of confusion about the use of the term 
 accounting. By many the word is made synonymous with 
 the word bookkeeping, as if the two were substantially 
 identical. Some persons use the term accounting as if it 
 were merely a high-flown expression for the word book- 
 keeping, while others admit the existence of a difference 
 between the two ideas but consider that accounting is 
 merely '* advanced" or ''difficult" bookkeeping. This con- 
 fusion of ideas is injurious to the proper development of 
 a science of accounting, as well as to the proper statement 
 of bookkeeping methods. It should be recognized at the 
 outset that the term "accounting" is properly used only 
 when applied to the principles, system, or theory by which 
 business facts are recorded with the design of showing 
 certain classes of results, or to the system or theory in ac- 
 cordance with which business facts are so analyzed as to 
 exhibit their relationships to one another. 
 
 Relation to Economics. 
 
 Thus defined, accounting appears as an important 
 branch of economics. Economics may be regarded as that 
 science which deals with the relationships of men in re- 
 
4 HENRY PARKER WILLIS 
 
 gard to wealth. Accounting is an analytical-descriptive 
 phase or branch of economics; it is the phase of economics 
 which sets down or arranges the results of actual economic 
 transactions in such a way as to exhibit the outcome of 
 those transactions. A correct application of accounting 
 will not only set forth the truth about a given set of busi- 
 ness transactions, but it will exhibit the effect of a series 
 of business transactions in comparison with a similar se- 
 ries elsewhere or at some other time. It will render pos- 
 sible the reduction of net results of business transactions 
 to a common and comparable basis so that they may be 
 contrasted with others or with what is recognized as the 
 standard or normal outcome of such a set of transactions. 
 Accounting has also its analytic side — the converse of its 
 constructive — which affords the basis for the study of ex- 
 isting commercial institutions from the standpoint of in- 
 vestment and speculation, and which furnishes the founda- 
 tion for correct auditing principles. This conception of 
 accounting places the subject in a serious and dignified re- 
 lationship to the science of economics as a whole, and lays 
 stress upon the necessity of a systematic development of 
 accounting ideas in harmony with the best results of eco- 
 nomic thought. 
 
 What Is Bookkeeping? 
 
 But what is bookkeeping'? The term as ordinarily em- 
 ployed simply means the recording of business transac- 
 tions in any given enterprise or undertaking in accordance 
 with a previously determined system or plan. Bookkeep- 
 ing is thus recognized as, properly speaking, an art. The 
 bookkeeper stands in relation to the accountant in precisely 
 the same position as does the engineer in relation to the 
 builder of the engine he is operating. The engine-builder 
 has devised a machine for the economical performance of 
 certain work; it is the function of the engineer to operate 
 that machine. The accountant provides a system upon 
 
THE PRINCIPLES OP ACCOUNTINa 5 
 
 wMcli tlie facts of business may best be recorded. The 
 bookkeeper, in pursuance of that system, records the facts 
 from day to day, following out the methods of analysis 
 and combination which the accountant has indicated. EQs 
 work is not necessarily mechanical, because under certain 
 conditions it may call for a very substantial amount of 
 initiative and independent judgment. Doubtless, it would 
 be well if every operating engineer were a completely 
 trained engine-builder familiar with the theory on which 
 the machine he runs is constructed. The same is true of 
 the bookkeeper. It would be highly desirable if a firm's 
 books could be both constructed and carried on by the 
 same person, and if that person were theoretically capable 
 of devising a suitable set of records which should give 
 effect to a complete system for recording the transactions 
 of the concern. Neither of these things is ordinarily pos- 
 sible. Specialization is as characteristic and as necessary 
 in the sciences or professions which record the results of 
 business transactions as it is in those which originate or 
 control the transactions. 
 
 The Accounting Profession. 
 
 As long as business was of a single type, and that a 
 comparatively simple one, there was no very extended field 
 for the development of accounting ideas. This is not at 
 all remarkable; on the contrary, it is the same situation 
 which has existed in other lines of work. When the in- 
 habitants of the United States lived largely in log cabins, 
 there was not much demand for the services of an archi- 
 tect. As long as business was confined to simple retail 
 transactions or to elementary manufacturing operations 
 with small capital, a uniform type of bookkeeping could 
 be employed and the bookkeeper, if intelligent, could be 
 depended upon to make such necessary modifications as the 
 special circumstances of the particular business seemed to 
 dictate. This condition of affairs gradually changed as 
 
6 HENRY PARKER WILLIS 
 
 the amount of capital employed became larger, as the na- 
 ture of business became more highly specialized, as the 
 corporation took the place of the individual enterprise or 
 the partnership, and as the distinction between govern- 
 mental and private business came to be recognized. Owing- 
 to this process of development, a consequent demand 
 sprang up for the elimination of unnecessary processes 
 and the introduction of new ones that had become neces- 
 sary in order to show where the given business stood at 
 a particular moment. Moreover, as business has become 
 more complex, and as the margin of profit has narrowed 
 while the size of operations has greatly increased, greater 
 and greater stress has been put upon the methods of get- 
 ting a system of records which would show in the most 
 accurate possible way what was the result of a given trans- 
 action or operation. It was not of very great importance 
 to a firm whether it made two or three cents per j'-ard of 
 cloth when it sold only a hundred or a thousand yards 
 per annum and when this was but one element in the busi- 
 ness; but it was of very great importance whether the 
 profit was two or three cents or nothing when the sales 
 were 100,000 yards or 1,000,000 yards per annum and when 
 the business dealt solely in such cloth. It has been recog- 
 nized, therefore, that it is well worth while for a business 
 concern to pay, and pay handsomely, for the very best 
 professional advice regarding the method of analyzing and 
 stating its daily operations or of organizing its business 
 in such a wslj as to admit of a comparison of its opera- 
 tions. In consequence of this strong demand, the profes- 
 sion of accountancy has been gradually evolved. 
 
 Development of Accountancy. 
 
 The discussion of bookkeeping, sometimes upon a plane 
 and from a standpoint that raised it practically to the 
 level of the science of accounting, because of the theoretical 
 grasp and power of analysis that was shown, dates back 
 
PRINCIPLES OF ACCOUNTINa 
 
 hundreds of years. It has not, however, been until com- 
 paratively recently that a distinct differentiation has taken 
 place between bookkeeping and accounting. Up to compar- 
 atively recent times the routine method of training book- 
 keepers was followed in Great Britain and then such book- 
 keepers were left to evolve themselves, if they could, into 
 accountants. The course of training was haphazard and in- 
 adequate, and as a result there was gradually developed in 
 England a demand for a better method of discipline and for 
 a public recognition of the profession of accountancy, as 
 well as for its regulation and control. The outcome was the 
 establishment of associations of "chartered accountants," 
 the members of which speedily came to have a high profes- 
 sional standing, their duties being those of examining into 
 the condition of businesses, ascertaining the situation, re- 
 porting thereon, certifying that the books of businesses 
 had been accurately conducted, suggesting changes in 
 methods of accounting, recommending new modes of busi- 
 ness administration, etc. Similar influences were at work 
 in the United States, but it was a much longer time be- 
 fore there was any legal recognition of the profession 
 of accountancy. In 1896, the State of New York 
 passed its law relating to certified public accountants, and 
 since that year the States of Pennsylvania, Illinois, Mary- 
 land, California, Washington, New Jersey, Michigan, Flor- 
 ida, Utah, Colorado, Connecticut, Georgia, Louisiana, Ohio 
 and Montana have legislated along similar lines. Measures 
 designed for the same purpose are now pending in other 
 states, and will gradually be adopted until in every state 
 the position of the accountant will be recognized by law, 
 and a man who has not secured a certificate by passing 
 the requisite examination or giving evidence of equal train- 
 ing will be in somewhat the same position as the medical 
 student or graduate who has not taken the state examina- 
 tion exacted of all who wish to practice medicine. 
 
8 HENRY PARKER WILLIS 
 
 Scope of Accountancy Examinations. 
 
 Because of the broad scope of the accountant's labors, 
 because the accountant is frequently brought into contact 
 with large problems which involve some knowledge of law 
 and other allied sciences, it is customary to include in 
 these examinations matter additional to that which prop- 
 erly falls within the scope of accounting in the sense in 
 which that term has been defined in preceding pages. 
 Practically every regular examination for public account- 
 ants now includes, besides questions on the theory of ac- 
 counts, problems in practical accounting and auditing and 
 the outlines at least of commercial law. Behind these is 
 usually the requirement of a high school education or its 
 equivalent and in some cases other and additional train- 
 ing. In what is set forth in the following pages, the effort 
 is made to present in outline the so-called theory of ac- 
 counts with some of its applications in practice. The sub- 
 ject of auditing is also dealt with in very general terms. 
 By auditing is meant the examination of records or ac- 
 counts that have already been made and whose correct- 
 ness is tested and certified to by the auditor. The auditor 
 of course has to be one who is familiar with accounting 
 and bookkeeping, although his work is not primarily con- 
 structive but chiefly critical and analytical. The practical 
 process of auditing involves the use of various methods 
 and expedients which save time or serve as easily avail- 
 able tests. This phase of the subject therefore cannot 
 be fully discussed in the treatment which is here intended, 
 but that treatment, as already indicated, will address it- 
 self to the setting forth of the principles of accounting 
 and the way in which they are practically applied, along 
 broad lines. 
 
THE PRINCIPLES OF ACCOUNTING 9 
 
 n. CONSTRUCTION OF THE ACCOUNT. 
 Object of the Account. 
 
 As we have seen, the fundamental problem of the ac- 
 countant is that of devising a suitable system for record- 
 ing business facts and their relations, and ''business," as we 
 have noted, consists of a process of buying and selling — in a 
 w^ord, exchanging. In the simplest sense of the term, then, a 
 *' record" of such operations would be found in a mere 
 statement of what had been done, written down in diary 
 form with no attempt at classification. Thus, suppose a 
 boy buys a stock of one hundred apples for which he pays 
 $3.00 and which he thinks he will sell at five cents each. 
 He might record his operations as follows: 
 
 January 1, Bought 100 apples for $3.00. 
 January 2, Sold 20 apples at 5 cents each. 
 January 3, Sold 40 apples at 5 cents each. 
 January 4, Sold 40 apples at 5 cents each. 
 
 Here would be a mere summary statement of what had 
 been done. It would be far better than nothing because 
 it would, at least presumably, be an accurate and detailed 
 statement of just what the boy had done. If this were sup- 
 plemented by any additional facts, such as the record of 
 the number of apples that had rotted or spoiled and had 
 consequently been thrown away owing to inability to sell 
 them, it would give a fair idea of the whole scope of the 
 undertaking. It is evident, however, that if the transac- 
 tions were numerous the record would become so long and 
 complex that presently it would of itself be valueless, be- 
 cause it would not carry any clear idea to the mind of the 
 reader. It would be of service then only as furnishing 
 material on which to base a further classification or ar- 
 rangement of the facts referred to. Such a classification 
 might, however, easily be obtained. 
 
10 HENRY PARKER WILLIS 
 
 Classification of Facts. 
 
 The most obvious idea in classifying commercial trans- 
 actions is to separate tliem into the two great groups of 
 opposed character already spoken of — buying and selling. 
 If John, the boy of our illustration, should do this at the 
 outset, he might think it well to reserve one page of his 
 notebook for "bought" items and one page for ''sold'* 
 items. In that case his operations might look like this: 
 
 BOUGHT. 
 January 1, 100 apples $3.00 
 
 SOLD. 
 
 January 2, 20 apples at 5 cents $1.00 
 
 January 3, 40 apples at 5 cents 2.00 
 
 January 4, 40 apples at 5 cents 2.00 
 
 John would now have a separation between his bought 
 and sold items w^hich would be of more value to him as 
 his transactions became more and more numerous and in- 
 volved more and more kinds of commodities. If, for ex- 
 ample, he extended his operations to oranges and bananas 
 and bought the various kinds of fruit, as well as sold them, 
 on different days or some of each on the same day, the 
 classification of bought and sold items would be absolutely 
 necessary, while he would find it further desirable to group 
 each day's transactions separately. At the end of a week 
 or a month, by going through his bought and sold records 
 extending over the period, he could see how much he had 
 expended and how much he had taken in. Supposing that 
 he then took account of stock and found what balance, 
 if any, of the various kinds of fruit remained in his posses- 
 sion, he w^ould have a substantially clear knowledge of 
 w^hat the result of the month's transactions had been. 
 
 Losses and Gains. 
 
 It would not be long before the fruit dealer, or anyone 
 else engaged in business, w^ould find that there w^ere a 
 number of other items that he must take into account in 
 addition to goods and money. The summary record of 
 
THE PRINCIPLES OF ACCOUNTING 11 
 
 transactions already described would throw no light on 
 anything except the goods he dealt in and the money he 
 received. And even if it were supplemented by a state- 
 ment at the end of the month or other period showing just 
 what was left of the fruit, the statement would probably 
 prove to be imsatisfactory as a genuine analysis of John's 
 operations. He would find that in the course of his sales 
 he had to take account of the fact that expenses of one 
 kind or another were incurred in doing the business. His 
 food, lodging, clothing, etc., might be reckoned by him as 
 incidental expenses, while the same might be true of such 
 fruit as spoiled while in his possession, thereby resulting 
 in a loss. As a result of considering these factors, it is 
 probable that John or anyone in his position would before 
 long be inclined to modify the general classification of 
 ^'bought" and ''sold" and to substitute something else that 
 would be more inclusive. What would this be? The diffi- 
 culty which John has encountered in getting a true idea 
 of his business in relation to himself is found in the fact 
 that the classification of ''bought" and "sold" merely 
 takes account of goods obtained or disposed of and money 
 received or spent, while what he needs is a statement of all 
 items of cost or outlay or loss involving a reduction of his 
 resources or income and a classification of all items of re- 
 ceipt or gain or advantage representing such income. 
 
 Debtor and Creditor. 
 
 The terms which have been accepted by the business 
 world as the conventional designation of the ideas just 
 set forth are those of "debtor" and "creditor," usually 
 abbreviated to "Dr." and "Cr." By these terms is meant 
 the comparative showing of advantage and sacrifice to 
 which we have referred. The use of the terms can be illus- 
 trated simply, from the theoretical standpoint, by a further 
 development of our illustration about John and his fruit. 
 Let us suppose that during John's transactions with the 
 
12 HENRY PARKER WILLIS 
 
 100 apples wliicli lie has bought, he iinds that 10 of them 
 spoil while he is obliged to pay, say, 50 cents for the use 
 of a stand on which to exhibit his fruit to passers-by. 
 Now what are John's groupings or classifications of ad- 
 vantage or sacrifice? He has purchased 100 apples giving 
 in exchange $3.00 in money. He has spent 50 cents for 
 *'rent." He has lost 10 apples without any return and 
 he has sold 90 apples at 5 cents each, bringing him in a 
 gross return of $4.50. 
 
 It is evident then that he might account for the trans- 
 actions he has carried on by summarizing at the end of 
 the week or month during which he has disposed of his 
 apples in such a way as to show a condensed grouping of 
 income and outgo. If he were to do this in simple form, he 
 might make the following showing:* 
 
 DEBTOR. 
 
 January 1, 100 apples $3.00 
 
 January 1, Rent 50 
 
 January 31, Apples lost 30 
 
 CREDITOR. 
 
 January 2, Apples so4d for cash $1.00 
 
 January 3, Apples sold for cash 2.00 
 
 January 4, Apples sold for cash 1.50 
 
 Balance in favor of creditor side 70 
 
 From this it is seen that John, the boy of the illustra- 
 tion, regards himself as having received from someone else 
 goods (apples), services (rent), and at the same time he 
 has been subjected to conditions which have inflicted on 
 him a loss of 10 apples which he figures at the cost price 
 of these apples or 3 cents each. In other words he himself, 
 or his business, is obliged to get back from the world at 
 large enough to cover the items of goods, services and loss. 
 In the course of the business transactions he does so recover 
 cash and is therefore credited with the amount of cash 
 thus received, and therefore furnished to the business. 
 The difference or "balance" simply shows whether John 
 
 *Assuming that the apples sold are not raised in price sufficiently to make 
 up for .the loss through deterioration. 
 
THE PRINCIPLES OF ACCOUNTINa 13 
 
 Smith's classification of debtor items exceeds or is less 
 than his classification of credit items. Ordinarily John 
 Smith, for the sake of convenience would be likely to offset 
 these items against one another in a rather more compact 
 fashion and he would want to affix to the statement some 
 title of a descriptive character indicating what the state- 
 ment was about. Such a statement, might be made out 
 by him in simple form as follows : 
 
 JOHN SMITH— HIS BUSINESS FOR JANUARY. 
 
 Dr. Cr. 
 
 January 1, 100 apples $3.00 January 2, Apples sold, cash. .. .$1.00 
 
 January 1, Rent 50 January 3, Apples sold, cash.... 2.00 
 
 January 31, Apples lost 30 January 4, Apples sold, cash 1.50 
 
 Balance 70 
 
 Nature of the Account. 
 
 From this illustration it can be seen what is the nature 
 of the account. The account is simply a condensed and 
 classified statement of business facts leading to a conclu- 
 sion. That conclusion is whether one or the other of the 
 sides or classifications in the account indicates an excess 
 of advantage or sacrifice, as the case may be. The account 
 is itself a classification — that is to say, it is about some 
 distinct definite thing. As presented and illustrated above 
 the subject-matter of the account or the thing to which it 
 related was **John Smith, his Business," and the conclu- 
 sion at which it was sought to arrive was whether the 
 things for which he had become indebted to the commun- 
 ity, or, in other words, for which he had been obliged to 
 pay others, were superior in value to the things 
 for which he had been paid by the community or for which 
 he had received cash from others. The classified 
 statement about John Smith and his business rendered it 
 possible to reach this conclusion only in the event that the 
 system of classification adopted was correct, and further 
 in the event that the given items were recorded correctly 
 in accordance with the system which had been determined 
 
14 HENRY PARKER WILLIS 
 
 upon. It is obvious, however, that tlie idea of the account 
 may be broadened or narrowed in actual practice accord- 
 ing to the particular needs of the matter which is to be 
 dealt with, the idea of the account and the theory of its 
 application to the recording of business transactions 
 being, however, kept the same throughout. In the illustra- 
 tion given above the effort was made to apply the idea of 
 the account to business as a whole, and this was undoubt- 
 edly the original or basic idea out of which accounting and 
 bookkeeping were developed, since historically the at- 
 tempt would be made to develop a system showing the 
 results of business transactions in general, and then to con- 
 fine them or limit them to particular phases of the under- 
 taking. 
 
 The Accounting System. 
 
 Before business has gone very far, however, it becomes 
 necessary to apply this idea of accounting to different 
 phases of the business and to recognize that every class 
 of transactions must be looked at in its relation to the 
 business as a whole but must at the same time be treated 
 by itself. This is merely for the sake of convenience and 
 simplicity. The question, therefore, arises: How can an 
 accounting system or system of accounts be devised in 
 order to show not merely the general results of a business 
 but also the effect of each transaction upon the general 
 position of the business itself? It is clear that such a 
 classification of accounts might be worked out from sev- 
 eral diiferent points of view according as the business it- 
 self varies and according as it is desired to show one thing 
 or another more clearly. This point will be dwelt upon 
 more at length later in the present volume. For the mo- 
 ment it is probably clearest to take one type of business 
 and show how the system of accounting applicable to that 
 business is worked out. There is general agreement that 
 the simplest type of such business, from the theoretical 
 
THE PRINCIPLES OF xALCCOUNTINa 15 
 
 standpoint, is that of retail trade. It may be asked there- 
 fore at the outset how many classes of account ought to 
 be kept by a retail trader like John Smith whose transac- 
 tions have already been illustrated. The first thing that is 
 sought by all retail traders is to know exactly what their 
 business as distinguished from themselves is doing. It 
 is, therefore, necessary to regard the business as a distinct 
 unit or entity separate from the person of its owner who 
 may be engaged in any number of business enterprises. 
 This implies that in every business it shall be assumed at 
 the outset that the concern starts with a given amount of 
 funds or wealth as a basis for tradmg and that these funds 
 or this wealth is appropriated exclusively to the uses of the 
 business without being withdrawn save under specified 
 conditions for the personal purposes of the proprietor. 
 Such an assumption gives rise to an account which is usu- 
 ally designated as ''capital account," and which is really 
 the account of the business considered as an entity in rela- 
 tion to the outside world. In other words, this capital ac- 
 count shows the relations existing between the business and 
 the world as a whole. Since, as we have seen, business op- 
 erations give rise to an increase or diminution of wealth, it 
 is evident that at the close of a business period it is desir- 
 able to have some account showing the profit or loss for the 
 business period. This account is usually named exactly 
 what its contents imply — that is, "profit and loss.'' 
 Since the sources of profit and loss may be va- 
 rious, there may be an advantage in sub-classifying 
 this account or in establishing others of the same 
 general type, but designed to show how profits or 
 losses arose. Examples of such are seen in the case of 
 such matters as rent, insurance, etc. All of these ac- 
 counts, illustrating the relationships between the busi- 
 ness or the proprietor of the business and certain more or 
 less abstract ideas or operations, are usually termed 
 "nominal accounts." The word "nominal" is used in des- 
 
16 HENRY PARKER WILLIS 
 
 cribing them not because they are unimportant but be- 
 cause they are accounts that indicate the relationship of 
 the proprietor or the business with certain names or ideas. 
 
 As in the case of John Smith's dealings in fruit, it 
 would not be enough to state how much he had spent or 
 how much he had taken in in cash or even these with the 
 addition of the amount of his expenses for the month or 
 other period, because he might have goods left on hand 
 or goods that had spoiled while in his hands, so that 
 the mere statement of the amount put in and the amount 
 taken out in cash would not necessarily show his exact posi- 
 tion at any given moment. It is always important to a busi- 
 ness to know exactly where it stands with reference to 
 cash and with reference to goods. Hence in every retail 
 business there are found accounts designed to show how 
 the stocks of certain things o"\;\Tied by the business have 
 been affected by various transactions. In the case of the 
 retail business the most important of such accounts with 
 things are ''cash" and ''goods" or "merchandise." There 
 may be others, as wall be seen later. Such accounts with 
 actual tangible things are usually called "real" or "prop- 
 erty" accounts. 
 
 In all of the illustrations that have been given 
 thus far it is assumed that every transaction was made 
 for cash, and that there was no particular object in know- 
 ing the names of those with whom the dealings were car- 
 ried on. Thus, John Smith, the fruit merchant, may get his 
 stock of apples from a wholesale grocer, and neither party 
 to the transaction may care to record the name of the other 
 any more than John Smith cares to record the names of 
 the persons who pass him on the street and purchase 
 apples at his stand. It is clear, however, that, in businesses 
 which are operated on any considerable scale, this indif- 
 ference as to names would not exist, for two reasons: (ly 
 In many cases payment would not be directly made in 
 cash and hence it would be necessary to have some record! 
 
THE PRINCIPLES OF ACCOUNTING 17 
 
 of the transaction, while (2) the individuals with whom 
 dealings were carried on might both buy from and sell to 
 the concern so that the latter would want to know the 
 balance of the dealings. For these reasons a third class 
 of accounts will be found in the accounting system of 
 every retail trader. This third class includes the so-called 
 "personal" accounts; that is, the accounts of the business 
 with various individuals or persons. 
 
 Accounts Reviewed. 
 
 Reviewing what has been said, then, we may state 
 that the accounts of a simple form of business are class- 
 ifiable under three heads: (1) Nominal accounts which 
 keep track of the results of operations and relationships; 
 (2) real accounts which keep track of the stocks of real 
 objects, including money, goods, etc., o\\Taed by the con- 
 cern; and (3) personal accounts which keep track of the 
 relationships between the business itself and various in- 
 dividuals with whom it has dealings. Under nominal ac- 
 counts we class capital, profit and loss, and expense of 
 various kinds; under real we class cash, goods, etc.; and 
 under personal we class all accounts having to do with a 
 distinct individual who is named. The object of clear and 
 good accounting is to show at any time the exact position 
 of the business — that is, the actual capital invested in it 
 as augmented by the profit or diminished by the loss for 
 a given period, to show exactly what the amount of this 
 profit or loss has been during the given period as com- 
 pared with similar periods in the past and to show at any 
 given moment the amount that the concern has to pay to 
 different individuals as well as the amounts that it has a 
 right to claim from other individuals. 
 
 The Accounts of John Smith. 
 
 Let us now see how these principles would work out 
 in the case of John Smith, the fruit vendor whose transac- 
 
 B— VIII— 2 
 
18 
 
 HENRY PARKER WILLIS 
 
 tions we have already described for the month of Jan- 
 uary. We saw that he originally bought apples to the ex- 
 tent of $3.00. Let us suppose that this is the total amount 
 that he has available for his business operations and that 
 he distinctly sets the sum aside as a basis for trading. If 
 he were to organize his simple transactions upon the basis 
 of an accounting system such as has just been sketched, 
 his ** accounts" before he had bought any apples would 
 look like this: 
 
 J. SMITH, CAPITAL ACCOUNT. 
 
 Dr. 
 
 
 
 
 
 Cr. 
 
 
 
 
 JJan. 1 
 
 Cash 
 
 $3.00 
 
 1 II 
 
 CASH. 
 Dr. 
 
 
 Cr. 
 
 Jan. 1 
 
 To J. Smith 
 
 $3.00 
 
 What does this show? Simply that the business con- 
 sidered as a going concern is credited with cash because 
 it has supplied that or has furnished it for business trans- 
 actions. John Smith, Merchant, has furnished the busi- 
 ness $3 of capital so that the account which deals with cap- 
 ital is "credited" w^ith that sum because it has furnished 
 the amount for business operations. In the same way, 
 the cash account carried on its Dr. side an entry of $3, indi- 
 cating the fact that the stock of cash has been established 
 or has been increased by the sum of cash which has been put 
 into the business by John Smith. Smith might, instead 
 of putting up the "capital" in the form of money have 
 put it up in the form of goods. In that event, the account 
 which w^ould be opened at the start would be — not cash — 
 but that of goods and merchandise, which would shoAV the 
 amount of such goods put into the business in the form of a 
 debtor entry corresponding to the amount thus furnished. 
 
 John Smith now spends his cash capital for apples — in 
 other words, he converts his cash into goods. What change 
 
THE PRINCIPLES OF ACCOUNTINa 
 
 19 
 
 does this make in his account ? It affects cash in the fol- 
 lowing way: 
 
 CASH. 
 Dr. Cr. 
 
 Jan. 1 
 
 To J. Smith 
 
 I $3.00 
 
 Jan. 1 
 
 By goods 
 
 I $3.00 
 
 All that this shows is that the cash account, which got 
 $3.00 from Smith, has now parted with it by reason of the 
 fact that goods have been received by the business in ex- 
 change for such cash. Moreover, since the business has 
 now come into the ownership of the apples or goods, a 
 goods or merchandise account will be opened as follows: 
 
 Dr. 
 
 GOODS. 
 
 Cr. 
 
 Jan. 1 To cash for apples 
 
 $3 00 II 
 
 There has now been no change whatever in the capital 
 account. The capital remains invested in the business 
 and the only change in the situation is that the items ob- 
 tained with the capital have changed in form, becoming 
 apples instead of cash. 
 
 We saw that Smith had to pay 50 cents for the rent of 
 his fruit stand. If this were properly recorded it would 
 appear in an account as follows: 
 
 Dr. 
 
 RENT. 
 
 Cr. 
 
 Jan. 1 To use of premises 
 
 $0.50 
 
 The account headed "Rent" carries the use of premises 
 for January upon the debtor side because some value has 
 been received by the business. The value received is the 
 actual use of the stand. This service of furnishing the 
 stand to the business or allowing the stand to be occupied 
 is as much an element of value as the apples that were re- 
 ceived by the concern. The fact that the apples had been re- 
 ceived was indicated by an entry on the debtor side of the 
 
20 
 
 HENRY PARKER WILLIS 
 
 goods account. In the same way the fact that the use of 
 premises has been received is carried on the debtor side 
 of the rent account. Of course Smith has to pay for his 
 rent in cash and that implies that at whatever period in 
 the month he makes payment he will reduce the cash on 
 hand. Supposing that he makes payment in advance on 
 January 1, he can do so out of the first proceeds of his 
 sales. In our former illustration we assumed that on 
 January 1 he sold 20 apples at 5 cents each, making $1. 
 This evidently meant that at the close of business on 
 January 1 he had reduced the stock of goods or apples on 
 hand by 20, valued at $1.00 for selling purposes, had cor- 
 respondingly increased the stock of cash and had inci- 
 dentally paid 50 cents for rent. It is clear that the rent 
 account, which has already been entered with the use of 
 premises for January, is not affected by these transac- 
 tions. Cash and goods then are the only accounts that are 
 changed and they will stand as follows: 
 
 CASH. 
 
 Dr. 
 
 
 
 
 
 Cr. 
 
 Jan. 1 
 Jan. 1 
 
 To J. Smith 
 " goods 
 
 $3.00 
 1.00 
 
 Jan. 1 
 Jan. 1 
 
 By goods 
 " rent 
 
 $3.00 
 .50 
 
 Dr. 
 
 
 GOODS. 
 
 Cr. 
 
 Jan. 1 To cash for apples 
 
 $3.00 Jan. 1 By cash 
 
 $1.00 
 
 Smith's subsequent transactions, as we saw, were all of 
 this same description; that is, sales of apples for cash, so 
 that the entries are thereafter all the same so far as sales 
 are concerned. We saw, however, that at the end of the 
 month he found 10 apples in an unsalable condition. How 
 should he account for these ? He could do so only by open- 
 ing an account for that special purpose or by representing 
 the loss thus incurred as an entry under his goods ac- 
 count. Supposing that he were to adopt the latter method, 
 what change would it make in the goods account? He 
 
THE PRINCIPLES OF ACCOUNTING 
 
 21 
 
 would have to regard the apples as having been sold or 
 parted with and consequently would be obliged to credit 
 goods account. There would, however, be nothing coming 
 into the business in return and as a matter of fact he 
 might find it more expedient to represent this loss of 
 apples under the head of a special account for the purpose 
 or under the head of the general profit and loss account. 
 If he did the latter, how would the profit and loss account 
 look? As follows: 
 
 PROFIT AND LOSS. 
 
 Dr. 
 
 Cr. 
 
 Jan. 31 To loss on fruit 
 
 $0.30 
 
 Here the apples are represented on the debtor side of 
 the profit and loss account because the abstract concep- 
 tion profit and loss is thought of as having received some- 
 thing from the business. It has received the apples that 
 were lost or spoiled — that is to say it is responsible to the 
 business for the sacrifice involved in losing the apples. 
 But at the end of the month is there not some other entry 
 to be made in profit and loss? Obviously that must be 
 done if the business has gained anything. What has the 
 business gained? It has sold all of the good apples re- 
 maining after deducting those that were spoiled. It has 
 consequently received a given amount of cash in exchange 
 while it has no goods on hand. It is possible, therefore, 
 to contrast the position of the business at the end of the 
 month very exactly with its position at the opening of the 
 month by consulting the goods account. The account 
 (supposing the transactions to have been the same as 
 those repres_ented on page 12') will be as follows : 
 
 Dr. 
 
 GOODS. 
 
 Cr. 
 
 Jan. 
 
 1 
 
 To cash 
 
 $3.00 
 
 Jan. 
 Tan. 
 Jan. 
 
 1 
 
 3 
 4 
 
 By cash 
 " cash 
 " cash 
 
 
 $1.00 
 2.00 
 1.50 
 
 
 
 
 
 Jan. 
 
 31 
 
 " loss on 
 
 spoiled goods 
 
 .30 
 
22 
 
 HENRY PARKER WILLIS 
 
 From this it is seen that whereas the total amount of 
 cash exjDended for the original stock of goods (apples) 
 was $3.00 the total amount which has nominally been real- 
 ized from the sale of these same goods or such of them as re- 
 main fit for consumption is $4.80. The goods or apples 
 have all been disposed of so that none remain on hand 
 available for sale. It is clear then that the difference be- 
 tween the two sides of the goods account represents the 
 excess for which the apples have been sold over and above 
 the price that was originally paid for them. This differ- 
 ence is seen to be $1.80 in favor of the creditor side and 
 this represents the income or profit for the business. To 
 complete profit and loss account we shall now simply credit 
 that account with the $1.80 which represents the balance 
 in goods account (having of course debited goods with this 
 same amount), while on the debtor side we shall enter all 
 those entries which represent losses or expenditures. In 
 the illustration w^e have chosen, the only losses or outlays 
 are those w^hich arose from the spoiling or decay of fruit 
 and the payment of rent as an expense. The profit and loss 
 account then will appear as follows: 
 
 PROFIT AND LOSS. 
 
 Dr. 
 
 
 
 Cr. 
 
 Jan. 1 To rent for month 
 Jan. 31 " loss on fruit 
 
 $0.50 
 .30 
 
 Jan. 31 By goods, gross 
 profit on sales 
 
 $1.80 
 
 The difference between the debtor and creditor sides 
 of the profit and loss account is thus seen to be $1.00. This 
 then is the net profit or gain on the business after allow- 
 ing for losses and it may be transferred to J. Smith's cap- 
 ital account as a credit representing the amount of cash 
 earnings which have been realized and added to the 
 amount originally in the business. As that amount was 
 $3.00 his net worth should now be $4.00. We may now gath- 
 er the accounts of John Smith together in the following 
 
THE PRINCIPLES OF ACCOUNTINa 
 
 23 
 
 form, employing however certain rulings and notations 
 which will be explained in Section III (pp. 35, ff.). 
 
 CAPITAL. 
 
 Dr. 
 
 
 
 
 
 Cr. 
 
 Jan. 31 
 
 To balance carried dowa 
 
 $4.00 
 
 Jan. 1 
 Jan. 31 
 
 Feb. 1 
 
 By cash 
 " profit and loss 
 
 By balance brought 
 down 
 
 $3.00 
 
 
 
 $4.00 
 
 1.00 
 
 
 
 $4.00 
 
 
 $4.00 
 
 CASH. 
 
 Dt. 
 
 Cr. 
 
 Jan. 1 
 Jan. 1 
 Jan. 3 
 Jan. 4 
 
 Feb. 1 
 
 To J. Smith 
 " goods 
 " goods 
 " goods 
 
 To balance brought down 
 
 $3.00 
 1.00 
 2.00 
 1.50 
 
 $7.50 
 
 4.00 
 
 Jan. 1 
 Jan. 1 
 
 Jan. 31 
 
 By goods 
 " rent 
 
 " balance carried down 
 
 $3.00 
 .50 
 
 $4.00 
 
 $7.50 
 
 Dr. 
 
 GOODS. 
 
 Cr. 
 
 Jan. 1 
 Jan. 31 
 
 To cash 
 " profit and loss 
 
 $3.00 
 1.80 
 
 Jan. 1 
 Jan. 3 
 Jan. 4 
 Jan. 31 
 
 $4.80 
 
 
 By cash 
 " cash 
 " cash 
 " loss on spoiled goods 
 
 $1.00 
 
 2.00 
 
 1.50 
 
 .30 
 
 $4.80 
 
 RENT. 
 
 Dr. 
 
 
 
 
 
 Cr. 
 
 Jan. 1 
 
 To use of premises 
 
 $0.50 
 
 Jan. 31 
 
 By balance to 
 profit and loss 
 
 
 
 $0.50 
 
 $0.50 
 
 
 
 $0.50 
 
 PROFIT AND LOSS. 
 
 Dr. 
 
 
 
 
 
 Cr. 
 
 Jan. 1 
 
 To rent for month 
 " loss on fruit 
 " balance to capital 
 
 $0.50 
 
 .30 
 
 1.00 
 
 Jan. 31 
 
 By goods, gross 
 profit on sales 
 
 
 Jan. 31 
 Jan. 31 
 
 $1.80 
 
 $1.80 
 
 
 $1.80 
 
 
 
 
 
 
 It will be observed that the sum total of the debtor 
 entries in these accounts of John Smith's for the month 
 of January, total the same as the creditor entries. His 
 assets at the end of the month consist simply of cash just 
 as they did at the beginning and the increase in cash is 
 equal to the increase in the capital or net worth of John 
 Smith. Every transaction was analyzed into two parts 
 
24 HENRY PARKER WILLIS 
 
 and gave rise to two entries, one on the debtor side of 
 some account and one on the creditor side of some account. 
 This is what is meant by the ''double entry" system or 
 principle in accounting and bookkeeping. Every trans- 
 action gives rise to two opposed entries in the accounts. 
 Wlien we say ''two entries" we do not necessarily mean 
 two in the literal sense but rather two opposing groups 
 of entries. A transaction may be analyzed into one entry 
 on the debtor side of the books and two or more on the 
 creditor side or vice versa. The principle simply requires 
 that the total value of the entries shall be the same on the 
 debtor side of the accounts as on the creditor. In closing 
 the accounts for the month the process of completing the 
 entries and transferring balances gives rise to various 
 technical processes necessitated by bookkeeping practice. 
 These will be sketched in the following section. 
 
 m. KEEPING THE BOOKS. 
 
 Practical Problems. 
 
 Supposing that business has developed a perfect theo- 
 retical system of keeping its accounts, the question will 
 always arise in every concern how practically to carry on 
 the actual records in such a way as to save time and labor 
 so far as possible and at the same time to insure the max- 
 imum of correctness and detail. Every bookkeeping sys- 
 tem is more or less of a compromise because no concern 
 is willing to spend more than is necessary upon the keep- 
 ing of elaborate records however desirable such records 
 might theoretically be. It is true, however, that many 
 concerns, accustomed to old and traditional methods of 
 bookkeeping and accounting, do maintain a variety of 
 records that are of no special service, while on the other 
 hand some firms, in their desire to simplify and avoid the 
 maintenance of unnecessary records, cut out links in the 
 accounting system that cannot well be dispensed with. 
 
THE PRINCIPLES OF ACCOUNTINa 25 
 
 This is unfortunate from a good many standpoints, be- 
 cause the ordinary concern is frequently obliged to make 
 use of its records of past transactions, either for the pur- 
 pose of establishing various points in legal proceedings or 
 of ascertaining what its practice has been on former oc- 
 casions where given problems were presented, or for the 
 purpose of convincing a prospective buyer of the exact 
 nature of the profits that have been realized. It is not 
 possible to lay down any hard and fast lines or rules with 
 reference to the exact number of books or records that a 
 concern shall keep or to specify which one can safely be 
 omitted, or to indicate certain of them as absolutely nec- 
 essary and indispensable. Experience shows what books 
 must be kept by a concern and what ones may with profit 
 be added; it also indicates the points at which the con- 
 cern may more or less readily dispense with certain 
 classes of records. Something further will be said on these 
 points later on in our treatment. At this point it is 
 enough to say that, contrary to many assertions on the 
 subject, it is not possible to lay down any general system 
 with regard to this matter but that there are, however, 
 certain kinds of books which are traditional or conven- 
 tional and which are found in some form in the majority of 
 concerns. 
 
 Traditional Books. 
 
 The traditional books that are carried on by the or- 
 dinary retail concern are the ^'day book,'' '' journal' ' and 
 ^^ ledger." Why should these have come into such general 
 use and why are they employed? Their use is as already 
 suggested largely a matter of convention and convenience. 
 This will be seen by a brief sketch of the contents of these 
 books. As was noted in our early analysis of the transac- 
 tions of John Smith, fruit vendor, it might easily have 
 been determined by Smith, had he been so disposed, to get 
 along with merely a diary or record indicating the character 
 
26 HENRY PARKER WILLIS 
 
 and extent of his transactions. We saw that in his case, 
 with very simple operations, that might have sufficed. Had 
 he done so, he might have given to his record the name *'Day 
 Book." A day book is, as ordinarily employed, nothing 
 more than a summary or outline statement of the various 
 transactions of the concern, they being recorded there for 
 the sake of convenience, in the order in which they occur 
 and, in small businesses, without any effort at classification. 
 A day book is usually ruled with columns designed to en- 
 able the proper recording of figures and their totaling. In 
 other words it is nothing more than a blank or record 
 book suitably ruled for the sake of convenience. Suppose a 
 concern had a month's transactions thus recorded in a 
 day book. It would have no classification or grouping of 
 the transactions, but on the contrary it could not see the 
 results of what had been going on, even in any one phase. 
 For instance, if Richard Brown had bought steadily of the 
 concern every day for a month and others had done the 
 same, the transactions of Brown and others would simply 
 be set down in chronological order. If a system of ac- 
 counting were to be employed, the segregation of the va- 
 rious items and their classification as accounts would be 
 necessary. This could be done by simply transferring the 
 items from the day book to another book in which the 
 proper classification would be made. 
 
 The Ledger. 
 
 The book to which such transfers would be made is 
 called the "Ledger." The ledger contains no new facts 
 that are not recorded in the day book, but merely presents 
 the same facts rearranged in such form as may be desired. 
 The form ordinarily desired is a grouping under the real, 
 nominal and personal accounts that have already been 
 described in Section II. Every ledger, therefore, contains 
 the customary nominal accounts such as capital, profit 
 and loss, etc., the customary real accounts such as cash, 
 
THE PRINCIPLES OP ACCOUNTING 27 
 
 goods, etc., and then as many personal accounts as there 
 are persons with whom the firm has had dealings which 
 it desires to record in this detailed way. The ledger then 
 is merely a book in which the transactions of the day book 
 are assorted under the heads Capital, Profit and Loss, 
 Cash, Goods, Eichard Brown, etc., etc., etc. The process 
 of transferring the items from the day book or any other 
 book to the ledger, is called ''posting," and the ledger is 
 said to be "posted" when the entries that have been made 
 in other books have been transferred to its pages. The 
 process of posting evidently implies the recognition of the 
 different accounts that are affected by a given transaction 
 and the transference of the proper entry to every account 
 which is thus thereby altered. In some cases this is not 
 an easy thing to do correctly, while it may be that the day 
 book does not give as full information about the nature 
 of the transfers made as is desired. For that reason, an- 
 other book is frequently introduced, intermediate betAveen 
 the day book and ledger. This is called the "Journal." 
 
 The Journal. 
 
 The journal is, as already indicated, little more than 
 a means of sifting out the transactions rather better than 
 could be done mentally, and serves the purpose of com- 
 paring the items for transfer by stating them in different 
 form. There might be no particular reason for using the 
 journal if the nature of the entry in the day book could 
 always be recognized at sight and a corresponding trans- 
 fer to the ledger could be made. But, as already indicated, 
 this is not practicable, and hence the use of the journal. To 
 the beginner in accounting or bookkeeping the use of the 
 journal is rather necessary because it serves as a means 
 of analysis and enables the testing of the work as well as 
 its review for the purpose of ascertaining w^hether errors 
 have slipped in or not. We shall speak of the journal 
 (and of the other books) more fully at a later point. At 
 
28 HENRY PARKER WILLIS 
 
 tliis point it is not necessary to do more than to indicate 
 clearly the difference in the way in which given entries 
 appear in the day book, journal and ledger. For example, 
 the following would be a typical day book entry: 
 
 Jan. 1 Bought goods of Richard Brown $100 
 
 In the journal this would appear as follows; 
 
 Jan. 1 1 Goods account — Dr. | 
 
 I To Richard Brown |$100.00 $100.00 
 
 This transaction is said to have been '* journalized." 
 What has been done has been to indicate that the transac- 
 tion "Bought goods of Richard Brown" implies that an 
 entry will be made on the debtor side of goods account 
 and a corresponding entry on the creditor side of Richard 
 Brown's account. This is for the reasons already suffic- 
 iently stated. Goods account is increased by the amount 
 of goods received and is therefore a "debtor" to the con- 
 cern, while Richard Brown has furnished the goods and 
 is therefore "creditor" of the concern to an equal amount. 
 The journalizing is merely the analysis of the transaction, 
 to indicate that the accounts affected or modified are 
 "Goods" and "Richard Brown," and that an entry of $100 
 is made in the one on the debtor side and in the other on 
 the creditor side. If the item thus journalized were to be 
 transferred to the ledger it w^ould appear thus: 
 
 GOODS. 
 
 Dt. Cr. 
 
 Jan. 1 ITo Richard Brown |$100.00 1| j 
 
 RICHARD BROWN. 
 
 Dr. Cr^_ 
 
 I I II Jan. 1 1 By goods 
 
 I I II I / $100.00 
 
 Evidently here, as remarked before, the service of the 
 journal is merely that of convenience. There is in this 
 case no other reason for its maintenance although in the 
 case of some other transactions the reason for keeping 
 
THE PEINCIPLES OP AOCOUNTINa 
 
 29 
 
 it is more obvious as will be seen later on.* Sample pages 
 of day book and journal are seen below. 
 
 Classification of Books. 
 
 We stated earlier in this discussion that the books, 
 day book, journal and ledger, were conventional or cus- 
 tomary books. In other words, the necessities of a busi- 
 ness may be such as to indicate that these books are not 
 adequate or sufficient or that some of them may safely be 
 omitted. For instance, it is entirely conceivable that a 
 
 Sample Page of Day Book. 
 
 1910 
 
 Jan. 1 
 " 1 
 " 1 
 " 1 
 
 John Smith begins business with cash capital, 
 
 Bought goods for cash 
 
 Sold goods for cash 
 
 Paid rent in cash, for January... 
 
 $3.00 
 
 3.00 
 
 1.00 
 
 .50 
 
 Sample Page of Journal. 
 
 
 
 Led. 
 Fo. 
 
 Dr. 
 
 Cr. 
 
 1910 
 Jan. 1 
 
 Cash acct. — Dr. 
 
 To Jo'hn Smith Capital acct. 
 
 
 $3.00 
 
 3.00 
 
 1.00 
 
 .50 
 
 $ 
 3.00 
 
 " 1 
 
 Goods acct. — Dr. 
 To cash 
 
 3.00 
 
 " 1 
 
 Cash acct. — Dr. 
 To goods acct. 
 
 1.00 
 
 " 1 
 
 Rent acct.— Dr. 
 To cash 
 
 .50 
 
 
 
 
 
 
 
 
 Note. Dates of transactions are placed in the column at the extreme left. 
 As transactions are analyzed for the ledger the debtor entry for each trans- 
 action is entered on the upper line wfth the corresponding creditor entry (or 
 entries) below. The sums entered are written in separate Dr. and Cr. columns 
 at the right. The column headed "Led. Fo." (signifies Ledger Folio) is 
 intended for the references to ledger pages where the transactions are posted. 
 
 *The illustrative accounts presented in Section II, p. 23, are ledger accounts. 
 
30 HENRY PARKER WILLIS 
 
 business might be so simple as to dispense entirely with 
 the day book and journal. But the probability is that the 
 reverse will be the case; that is, that more rather than less 
 books will be needed. What direction will this increase 
 in books and records take ? Obviously it may take the di- 
 rection of adding or developing some entirely new books, 
 or it may take the direction of sub-classifying the old 
 ones. The latter case is the simplest and most easily un- 
 derstood and will therefore be dealt with first. It is easy 
 to see that the mere work of recording transactions in the 
 day book may be very heavy indeed where the transac- 
 tions are exceedingly numerous. It may be so heavy as 
 to make it desirable to have two or more day books, in 
 order that two or more clerks may work simultaneously 
 at the recording of the transactions. If that were the 
 case, it would be entirely possible to have the two or more 
 clerks working at exactly the same duty — the recording 
 of all kinds of transactions indiscriminately in chronolog- 
 ical order. This would have the disadvantage of render- 
 ing it hard to journalize or post from tw^o or more books 
 and yet have the journalizing or posting done in chrono- 
 logical order in the journal or ledger. Moreover, a val- 
 uable opportunity for classifying transactions would have 
 been lost. A better classification would be made by in- 
 stituting a "sales day book" and ''purchases day book" 
 or ''purchases book." In the sales day book would then be 
 recorded all selling transactions. In the purchases book 
 w^ould be recorded all buying transactions. There would 
 thus be a rough classification of transactions and in addi- 
 tion the element of greater convenience w^ould have been at- 
 tained. There would be no reason w^hatever why the sales 
 day book should not be subdivided to any extent by estab- 
 lishing a sales day book, say, for every department of the 
 business. Thus, if the concern were a department store, it 
 might theoretically have a sales day book for its grocery 
 department, one for its dry-goods department and one for 
 
THE PRINCIPLES OF ACCOUNTINa 31 
 
 its furniture department. In the same way, there might 
 be purchases books for each of these departments. The 
 subdivision here is merely a matter of convenience and in- 
 volves no change of theory. All of these books are books 
 of "original entry," and in all bookkeeping transactions 
 involving the whole business of the concern they should 
 simply be regarded as mere subdivisions of the original 
 day book and as constituting together, when taken as a 
 whole, exactly the same thing in relation to the business 
 and its accounting system as the original day book. 
 
 Classes of Ledgers. 
 
 What has been said of the day book applies to the 
 ledger in exactly the same way. In a large concern, it 
 may be very difficult to make use of the ledger in such a way 
 as to get all transactions quickly and jDromptly posted, be- 
 cause the work is too much for one man. Similarly it may 
 be desirable to have the ledger in more than one place at 
 the same time, so that more than one actual book is 
 needed. The classification of ledgers is therefore custo- 
 mary. This classification may proceed upon the same lines 
 as did that of the day book — there may be purchases ledg- 
 ers, sales ledgers, etc., to any number. The purchases 
 ledgers would simply include accounts with individuals 
 from whom purchases had been made. The sales ledgers 
 would include accounts with individuals to w^hom sales 
 had been made. Or, for the sake of convenience it might 
 simply be desirable to have the ledgers alphabetically ar- 
 ranged. Thus there might be two ledgers — one containing 
 all accounts beginning with a letter from A to M, the 
 other including all accounts beginning with a letter from 
 N to Z, or if the business required it there might be 24 
 ledgers each including the accounts beginning with a 
 letter of the alphabet, and so on. All this is merely matter 
 of detail. It is clear, however, that no matter how exten- 
 sive the business may be it will ultimately desire to have 
 
32 HENRY PARKER WILLIS 
 
 the results of its accounting condensed, since the final ob- 
 ject of all accounting is to show net results. This means 
 that somewhere or other the so-called nominal accounts, 
 which show the changes in capital, profit and loss, etc., 
 must be combined. This is done in what is usually called 
 the ''general ledger." In this general ledger are ordina- 
 rily represented the combined results of the other ledgers, 
 as purchases ledger, sales ledger, etc., or "A" ledger, "B" 
 ledger, etc. By opening an account with each of these 
 ledgers in the general ledger, there may be presented in 
 the general ledger the combined results of the others and 
 along with them are given the general or nominal ac- 
 counts which apply to the whole of the business, as cap- 
 ital, profit and loss, etc. In any bookkeeping or account- 
 ing system, the whole set of ledgers is simply treated as a 
 unit just as would have been done with the original simple 
 form of ledger, in which all ledger accounts were consoli- 
 dated into one book. Where the general ledger is used, 
 this gives in summarized form the results of all the other 
 ledgers and in such a case the general ledger stands in the 
 same position as did the original ledger. The sub-classi- 
 fied ledgers are then nothing more than books kept for 
 the sake of convenience in making records. 
 
 While there is no reason why the journal should not be 
 sub-classified, and as many journals kept as there are sub- 
 divisions of the day book, that is not usually necessary, 
 and except under special conditions, which may be referred 
 to at a later point, the journal usually retains its position 
 as a single intermediary book. 
 
 Other Books. 
 
 As has been seen, the most obvious and natural classi- 
 fication of books which suggests itself in the case of the 
 large business is that which grows out of the division of 
 the various books for reasons of convenience as indicated. 
 But this is by no means the only way in which books may be 
 
THE PRINCIPLES OF ACCOUNTINa 33 
 
 added to the number. For example, it may easily be that 
 a ledger account becomes so long and so highly compli- 
 cated as to make it desirable that this account shall be 
 taken out of the ledger and nothing entered in the actual 
 ledger itself except totals for given periods. The best ex- 
 ample, perhaps, of this kind, is seen in the general use of 
 the ''cash book." Where a cash book is kept, as it usually 
 is, it is nothing more than the ledger cash account bound 
 up by itself and treated as an independent book. This 
 may be done for exactly the same reason which led to the 
 original sub-classification of the day book. It may be de- 
 sirable to have the cash book broken up so that several 
 persons can work on it, or at all events to have it separated 
 from the ledger so that access to it can be easier and so 
 that a long and very detailed account need not be kept in the 
 ledger. Exactly the same thing that is true of cash may 
 be true of any other ledger account — that is to say, a 
 special book may be designated for the keeping of that 
 account. The two books which are customarily seen are 
 the so-called "bills receivable" and "bills payable" books, 
 these books being records of the bills receivable which the 
 firm owns, or the bills payable for which it has rendered 
 itself liable but which it desires to have recorded in con- 
 venient form with all particulars of the date when due, 
 the rate of interest paid, etc. Corresponding to each of 
 these books, is of course an account in the ledger which 
 simply gives in summary form the totals of the opera- 
 tions recorded in the bills payable or bills receivable 
 books. But it should be understood that these books are 
 really kept in lieu of ledger accounts and represent such 
 ledger accounts. Beside books of this sort, there may be 
 various other books growing out of the necessities of the 
 business, but they are all either ancillary to, or parts of, 
 the original books. Thus, for example, there may be an 
 "invoice" book into which are pasted invoices, etc. This 
 then is really a way of filing or recording. Other books 
 
 B— VIII— 3 
 
34 HENRY PARKER WILLIS 
 
 that may be kept are books designed to record returns of 
 goods or goods returned by the firm to others, petty cash 
 book, which is really ancillary to the cash book itself, etc. 
 
 Relation between Books. 
 
 As has been seen, the process of ''keeping" the books 
 is a process of recording transactions originally, and then 
 of passing them through the various forms of records un- 
 til the whole set of records is complete and satisfactory. 
 What does this process of keeping the books imply? In 
 the first place, it of course means that every transaction 
 involving the transference of values must be re- 
 corded. Secondly, it means that every transaction thus 
 recorded must be put through identically the same process 
 of analysis, transfer, and ultimate record as ever}^ other. 
 It is only in that way that the books can be made to show 
 the results of the business with accuracy, and of course 
 under the system of ''double entry" earlier described, it 
 is only in that way and on those conditions that the books 
 can be made to "balance" and thereby give prima facie 
 evidence of the fact that they have been correctly kept. 
 The keeping of the books thus necessitates a recognition 
 of thejr relation to one another and of the ways in which 
 transactions must be recorded in order to maintain the 
 same relationship between them that was established at 
 the outset. Every transaction must figure in the same 
 way and to the same extent in all the books through 
 which it is passed, or in other words the change in trans- 
 actions that is brought about in passing them through the 
 various books is merely a change in method or analysis 
 and not a change in substance. - We have already referred 
 incidentally to a few of the technical terms used in con- 
 nection with the keeping of the 1)ooks but it is wDrth 
 while to speak of these' once more at this point, and to add 
 one or two ideas not thus far referred to. The books are 
 said to be *' opened" when the "opening entries" have 
 
THE PRINCIPLES OF ACCOUNTING 35 
 
 been made, that is to say when the facts about the organ- 
 ization of the business have been properly recorded in 
 each of the books and the concern is ready to begin oper- 
 ations. Or the books may be said to be technically opened 
 when they are simply provided, furnished with the proper 
 rulings and when the names of the accounts, etc., that will 
 certainly be needed have been set down. As seen at an 
 earlier point, ''journalizing" is the transferring of the 
 items recorded in the day book to the journal and the plac- 
 ing of them in journal form, while ''posting" is the name 
 given to the process of transferring the items to the 
 ledger, arranging them there in their proper shape and 
 under suitable headings. In general, the term "posting" 
 is applied to the keeping of any book up to date with all 
 the transactions recorded in it that properly belong there, 
 although, technically speaking, the word is used specifi- 
 cally of the ledger. 
 
 Balancing and Closing. 
 
 Two terms, however, both of great importance, have 
 not yet been taken account of. These are "balancing" 
 and "closing." The two need to be studied in close con- 
 nection with one another both with reference to their defi- 
 nition and to the processes to which they relate. By bal- 
 ancing is meant the bringing of the various accounts to a 
 balance — that is to say, the ascertainment of the amounts 
 that are required, whether on the debtor or creditor side, 
 to be entered in order to make the two sides foot up the 
 same amounts. An account is said to be balanced when 
 the additions of both sides have been made, the difference 
 between them taken, and this sum written on one side or 
 the other — reading when on the debtor side "To balance 
 
 $ " and on the creditor side "By balance 
 
 $ . " The balancing of any given account is thus 
 
 a comparatively simple, almost mechanical, operation.* 
 
 * See illustrative accounts at the end of Section II, p. 23, where the simple 
 transactions there presented are balanced. 
 
36 HENRY PARKER WILLIS 
 
 But the balancing of the books as a whole is more difficult 
 both theoretically and practically. As has been seen, the 
 day book is merely a record of transactions and the sum 
 total of its columns is nothing more than the sum total 
 of all operations performed or of all operations belonging 
 to the particular class or group of operations to which a 
 section of the day book is devoted. When we come to the 
 journal or ledger the case is different. As was seen in 
 the discussion of the journal, transactions are there ar- 
 ranged in double columns with a view to making them 
 ready for the ledger. These debtor and creditor columns 
 in the journal should therefore total the same, inasmuch 
 as under the theory of double entry every debtor entry is 
 offset by a creditor entry somewhere. In the journal, 
 every debtor entry is immediately offset by a creditor en- 
 try or series of entries recorded close at hand in the par- 
 allel column. The balancing of the journal, therefore, is 
 effected by merely totaling the columns of the book and 
 ascertaining that the debtor total equals the creditor total. 
 In the same way, it should be true that in the ledger the 
 total of all debit items should be the same as the total of 
 all credit items. This would mean necessarily that the 
 total of all debtor balances in the accounts should equal 
 the total of all creditor balances in the accounts. The first 
 step in balancing and closing the books is usually an effort 
 to test the correctness of the w^ork by drawing off what is 
 called a *' trial balance." This is done by writing down on 
 a sheet of paper the name of each account with the total 
 of its debtor postings in a column headed Dr. and the total 
 of its creditor postings in a column headed Cr. When this 
 has been done for every account in the ledger and the sum 
 total has been added the two columns should present ex- 
 actly the same total. If every transaction has been 
 passed through the journal, the total of the debtor entries 
 in the journal should be the same as the total debtor en- 
 tries in the trial balance while the total creditor entries 
 
THE PRINCIPLES OF ACCOUNTINa 37 
 
 in the journal should be the same as the total creditor 
 entries in the trial balance, the two being of course equal 
 to one another. When this result has been arrived at, the 
 prima facie evidence of the correctness of the bookkeep- 
 ing has been afforded. It is then possible to go on and 
 complete the process of "closing." This may be defined 
 as simply the completion of the accounting process by 
 transferring those balances which show results of the bus- 
 iness process to the nominal accounts (profit and loss, and 
 capital) to which they are related, thereby rendering pos- 
 sible an idea of the result of the operations for the fiscal 
 period. 
 
 Technique of Closing. 
 
 But how is this "closing" carried out? In the case of 
 the retail business which we have selected as the basis 
 of our reasoning, the process of closing consists of two 
 main operations : (1) The completion of profit and loss ac- 
 count, and (2) the transfer of profit and loss results to capi- 
 tal account. The latter step is taken in order to show what 
 addition to the net worth of the business or what sub- 
 traction therefrom has been brought about by the trans- 
 actions of the fiscal period. The process of completing 
 the profit and loss account, which we have referred to as 
 the first step, involves, however, one or two antecedent 
 operations. What is necessary in order to complete the 
 profit and loss account? If there had been accounts like 
 rent, taxes, insurance, etc., in which the entries are all on 
 one side, namely, debtor entries, these accounts can be bal- 
 anced only by "entering" a corresponding creditor entry 
 in the opposing column merely for the sake of formally 
 "closing," and then "transferring" the balance to profit 
 and loss. In profit and loss it appears on the debtor side 
 as a "loss," being simply entered there under the head of 
 the account from which it is drawn. The debtor column 
 of profit and loss is thus nothing more than a summary 
 
38 HENRY PARKER WILLIS 
 
 of the debtor totals in the various expense accounts, as 
 rent, taxes, insurance, etc. If the business is simple these 
 entries will have been written up in profit and loss account 
 direct from time to time as the expenditures have been 
 made. But if the items have been numerous so that they 
 have been kept under separate headings in the way just 
 indicated, they appear simply as subdivisions of profit 
 and loss account and in that event the process of trans- 
 ferring, of which we have spoken, is necessary. If this 
 has been done and if all other accounts have been pre- 
 viously balanced as indicated, the only thing that remains 
 uncertain is the quantity of goods or property remaining 
 on hand. This can be ascertained only by directly finding 
 out what it amounts to — a process which in retail business 
 is described as *' taking an inventory." The goods ac- 
 count when originally opened of course carried on its 
 debtor side the total amount of goods that had been 
 bought by the business and for which therefore the ac- 
 count itself was theoretically ''debtor," or indebted to 
 the business. If less than the total amount of goods has 
 been sold, then the sales items (which have been entered 
 on the creditor side) will be less than the total amount of 
 goods. By ascertaining the original cost value of the 
 goods remaining on hand and entering this on the creditor 
 side along with the sales, the two sides of the goods ac- 
 count will deal with exactly the same amount of goods. 
 The debtor side will show the amount of goods bought at 
 their cost value, while the creditor side will show the 
 amount of goods sold at their selling value plus the goods 
 remaining on hand at their cost value. The creditor side 
 then would be greater in its total than the debtor side by 
 precisely the excess amount over cost that has been realized 
 on those goods that have been sold. If the goods have been 
 sold for less than cost, the debtor side would be greater 
 than the creditor side and this would mean a loss to the 
 business instead of a gain. It should be added that in 
 
THE PRINCIPLES OF ACCOUNTINa 39 
 
 many businesses stocks of goods kept on hand deteriorate 
 in value, and that in taking inventory it may be better 
 to represent the goods at their cost less depreciation; that 
 is, if they are vegetables and some have rotted, they may 
 be represented at cost minus a discount representing de- 
 cline in value. It may conceivably be true that where 
 this is done the loss due to deterioration of goods will be 
 so great as to offset the gain due to the sale of some goods 
 for more than their cost. In that case the account will 
 show a loss. But at this point, for simplicity's sake, we 
 will not contemplate such a condition, but will assume 
 that the goods are of a kind that will not deteriorate and 
 that they may therefore be represented in the inventory 
 at their exact cost value, while the goods that have been 
 sold are assumed to have been sold for something more 
 than cost. In that case the balance of goods account is on 
 the creditor side and represents a gross profit. In balanc- 
 ing goods, an entry to balance is therefore placed on the 
 debtor side of the account and an equal entry is 
 transferred to the creditor side of profit and loss be- 
 cause it represents profits derived from the sale of goods 
 which constitute what profit and loss account * Ogives" in 
 the technical sense, and out of which this account has to 
 pay the debtor items which it has ^'received" in the tech- 
 nical sense, such as rent, taxes, wages, etc., etc. What is 
 the next step in the process? Profit and loss account is 
 now merely a summation of the amounts that have been 
 paid out without getting any tangible return, that is, that 
 constitute expense, and of the items that represent receipts 
 over and above what represents actual cost of goods. If 
 there were any other items of income or expenditure, they 
 would have to be similarly recorded in profit and loss. 
 For example, if the business sold services of some kind — 
 as in the case of a firm of lawyers — the balance of the ac- 
 counts representing services would have to be transferred 
 to profit and loss just as was done in the case of goods. 
 
40 HENRY PARKER WILLIS 
 
 Supposing, however, that profit and loss has been made a 
 complete summary of the transactions, this must mean 
 that the difference between its two sides is the net profit 
 of the concern; that is, the gross profit minus the ex- 
 penses, and is therefore a net addition to the wealth or 
 property or capital of the proprietor. In order to show 
 the results, then, this balance of profit and loss account 
 (which if the business is a profitable one is found on the 
 debtor side, the creditor side being the larger, so that the 
 debtor balance is a profit) is transferred to capital ac- 
 count and is there placed upon the creditor side, being 
 therefore added to the original entry which was made at 
 the beginning of the business period. This gives a total 
 of net worth. If money is taken out of the business by 
 way of dividends or profits, that, of course, has already 
 been done, and a proper showing has been made in profit 
 and loss under the head of debtor entries or expenses. 
 The amount that is carried to capital account as a net 
 profit at the last is, therefore, an actual net addition to 
 capital and is so represented. It is now possible to bal- 
 ance the capital account in the formal way by simply mak- 
 ing a balancing entry on the debtor side, which represents 
 the total amount of capital continued in the business, and 
 this, therefore, constitutes the capital to be used for the 
 next fiscal period and which is the first or opening creditor 
 entry for the next fiscal period. 
 
 Balance Sheet. 
 
 When the books have thus been closed, it is desirable 
 to make out what is called a *' balance sheet," in order to 
 state the condition of the business in such a way as to in- 
 dicate to the business man himself or to the person whom 
 he desires to inform, what the precise position of the busi- 
 ness is. The question may be asked whether this object 
 has not already been obtained in closing the books, since 
 that process has resulted in showing the net capital of the 
 
THE PRINCIPLES OP ACCOUNTING 41 
 
 business. The answer is tliat tlie closing process, result- 
 ing in writing up and closing the capital account, does not 
 sufficiently show the results, for the reason that it does 
 not indicate the form that the assets and liabilities of the 
 concern have assumed. For instance, if the business 
 started off on an actual cash basis, its capital was all in 
 the foiTii of cash, but at the end of a business period such 
 as a year, it may be, and probably is, in a very different 
 form. It is now likely to consist in part of cash, in part of 
 trade accounts and in part of unsold goods. Against these 
 there are probably claims payable by the concern for goods 
 or services or other items of liability. The balance sheet is a 
 comparative showing of such assets and liabilities. On 
 the liabilities side, are set down the amounts that the 
 business owes and on the assets side the amounts that it 
 possesses or that are due it. It is customary to say that 
 the credit balances in the ledger constitute the liabilities, 
 while the debtor or debit balances of the ledger are 
 assets and that by taking the debtor balances and adding 
 them, the showing of assets is made, while, by taking the 
 credit balances, adding them and combining with capital, 
 the showing of liabilities is made. The difference between 
 the sum of the debtor balances and the sum of the creditor 
 balances should be equal to the total capital as found in 
 closing capital account and this should afford a final check 
 of the accuracy of the bookkeeping operations. Why this 
 is, is easily understood when it is remembered that capital 
 account, as closed, is simpl}^ the original credit entry in 
 capital augmented by the net balance called profit which 
 has been obtained by closing up goods account, transfer- 
 ring it to profit and loss and there offsetting it against the 
 expense items on the debtor side of profit and loss. The 
 balance sheet, which is thus the combined showing of the 
 business, would in any except a very simple business, be 
 long and unwieldy and would thereby defeat its own pur- 
 pose, which is to supply a bird's-eye view of the situation, 
 
42 HENRY PARKER WILLIS 
 
 if every item were named in the way that has been indi- 
 cated. In the ordinary trial balance, therefore, for a 
 business of any considerable size there is usually found 
 simply a summary of classes of accounts. Thus on the 
 assets side may be found such groupings as ''Due from 
 sundry debtors or customers," "Cash on hand and in 
 bank," etc., while on the liabilities side may be found such 
 groupings as "Due sundry trade creditors," "Due on 
 short-time loans," etc., "Capital," and the like. Thus the 
 particular items that go to make up the assets and liabil- 
 ities are not enumerated but are simply arranged by great 
 groups. In this way, there is presented to the proprietor 
 or to the outsider who is to be informed, a clear-cut view 
 of the position of the business. The only thing that he 
 now lacks in order to form a definite idea of the situation 
 is a knowledge whether the assets of the concern are worth 
 what they are represented to be. For example, the con- 
 cern may not have deducted from its statement of goods 
 on hand the discount which must unquestionably be al- 
 lowed for in view of deterioration. This would mean that 
 the capital account was vitiated to some extent because it 
 was made to show a larger amount of net worth, partly 
 consisting of goods, than could be realized. So, also, some 
 of the assets consisting of debts due the concern from cus- 
 tomers may be worthless or uncollectible and yet may be 
 carried on the books at their full face value. These are 
 points on which the accounting system affords no light 
 and about which knowledge can be obtained only through 
 an intimate examination of the assets themselves, with a 
 view to ascertaining whether there are elements of deter- 
 ioration or loss which have not been made obvious in the 
 accounting system as carried on. If there are, the mean- 
 ing is that the accounting system has not been sufficiently 
 fully organized and that the books therefore do not tell 
 everything that they should tell about the business. 
 
THE PRINCIPLES OF ACCOUNTINa 43 
 
 IV. CAPITAL. 
 
 Thus far we have spoken first of the constnietion of 
 an accounting system, and then of the keeping of certain 
 books designed to record the facts or data which are fitted 
 into this system, in such simple terms as were necessary in 
 order to convey the bare outline theory of the subject. 
 This was necessary in order to establish a basis for the 
 further discussion of the theory of accounting in more 
 general and technical terms. It is now time to take up in 
 greater detail, and with a more analytical method, the 
 broader questions surrounding the various accounts and to 
 show how these must be dealt with. 
 
 The Capital Account. 
 
 In speaking of the simple transactions which were as- 
 sumed for purposes of illustration in our earlier discus- 
 sion, it was noted that the fundamental problem which 
 the merchant always has in mind is whether or not his 
 capital has been increased or diminished. In speaking of 
 bookkeeping we showed that the capital account is theo- 
 retically the first to be opened and the last to be closed. 
 In making a more elaborate analysis of the question of cap- 
 ital, it is therefore worth while to bear these facts in 
 mind, remembering that it is around the capital accounts 
 that the accounting and bookkeeping process revolves. 
 Capital account when analytically discussed, however, im- 
 plies considerations affecting a number of others. But in 
 the first place it is necessary to take up the simple as- 
 sumptions upon which we based our earlier discussion and 
 to see how far they must be modified in order to apply 
 them in practice. 
 
 How Capital Is Contributed. 
 
 The first assumption thus far made, and the one which 
 naturally suggests itself, is that capital is put into a busi- 
 
44 HENEY PARKER WILLIS 
 
 ness by some individual who designs to use it in the con- 
 duct of that business. This, however, is not necessarily 
 the case. Today the rapid rise of the corporate method of 
 doing business has brought it about that a considerable 
 number of businesses, perhaps a majority, are organized 
 as corporations. Recent investigations by the Federal 
 Government have shown that there are 400,000 such cor- 
 porations organized in the United States today. A cor- 
 poration consists of individuals, to at least a specified 
 number named in the law governing incorporation, who 
 thereby become participants in the affairs of the concern 
 and who jointly contribute its capital. If there are not 
 very many such persons and if they contemplate the re- 
 tention of the active control in their own hands, they may 
 prefer to form a partnership. But whether the business 
 is organized as a partnership under the laws of the state 
 in which it is created or as a corporation under the law 
 of incorporation in that state, the point just noted is the 
 same, as the capital is contributed by several persons who 
 become joint contributors and joint participants in the 
 business. In any of these cases the capital account is the 
 same in its essential nature, but where there is more than 
 one person involved there arises an additional problem of 
 keeping track of the different relations to the business 
 which are occupied by the various persons who partic- 
 ipate in such ownership. Fundamentally, capital account 
 remains unchanged in its essential nature. If John Smith 
 is alone in the business his capital account bears the title : 
 
 John Smith, Capital Account. 
 
 If John Smith and Richard Brown are jointly engaged 
 the capital account is entitled: 
 
 Smith & Brown, Capital Account. 
 
 If they are incorporated along with a number of others 
 the title may be: 
 
 The Smith & Brown Co., Capital Account. 
 
THE PRINCIPLES OF ACCOUNTING 45 
 
 Taking up first the case where two or more persons are 
 united as partners, it is clear that their relations to the 
 business may be sufficiently indicated by subdividing the 
 capital account into as many separate sections or divisions 
 as there are partners. Thus under the heading "Smith & 
 Brown, Capital Account" there might be a sub-heading 
 "John Smith" under which would be entered the amount 
 of capital contributed by Smith at the start and another 
 sub-heading "Richard Brown" in which would be entered 
 as a credit the amount of capital originally contributed by 
 Richard Brown. Then, when the profits are to be carried 
 to capital account from profit and loss, they will be appor- 
 tioned between Smith's subdivision and that of Brown, 
 according to the terms of the original agreement. If 
 Smith and Bro^vn are equal partners and are to share 
 equally, one-half the net profits will be credited to each. 
 Or, if by virtue of some special agreement set forth in the 
 articles of partnership, one is to be favored above another, 
 the entry will be made upon the proportionate basis which 
 is thus indicated — as two-thirds to one, and one-third to 
 the other. It is entirely possible that the individual or 
 partners who are in control of the business may one or all 
 desire to draw some cash from time to time. If John 
 Smith, for example, being alone in the business, desired 
 to do so, the proper entry would be a debit entry on the 
 capital account which would amount merely to a state- 
 ment that he had reduced his capital by that amount. The 
 same thing is true where two or more partners are en- 
 gaged. By simply debiting each with the amount he draws, 
 the net reduction effected in his capital is indicated and 
 the corresponding change in the distribution of profits 
 will be determined either by reference to the partnership 
 agreement or by reference to some oral or other under- 
 standing. If the individual or individuals who are con- 
 ducting the business are likely to draw out money quite 
 frequently in small sums, it may be worth while in order 
 
'46 HENRY PARKER WILLIS 
 
 to avoid making tlie capital account long and complex to 
 open what is called a *' drawing" account. This account 
 is nothing more than a memorandum carried for the pur- 
 pose of keeping track of numerous debit items which 
 would other\sdse appear in capital account. At the end of 
 the year or other fiscal period, the total of these debit en- 
 tries in drawing account is transferred to the debit side 
 of that section of capital account which belongs to the 
 particular partner whose transactions are recorded. After 
 the books have been fully written up, the sum total of the 
 net capital shoAvn in each of the partner's subdivisions in- 
 dicates the gross capital of the concern. The situation is 
 more complicated when the business assumes a corporate 
 form. This is because of the conditions surrounding the 
 corporate type of organization. 
 
 Corporation Capital Accounts. 
 
 Suppose it has been determined to organize the Smith 
 & Brown Company, a corporation. Articles of incorpor- 
 ation are prepared and the concern is legally incorporated. 
 In order to become thus legally incorporated, it is obliged 
 to fix as a definite sum the amount of its capital or at all 
 events to name the maximum amount of capital it designs 
 to employ. Such nominal capital is described as the ^^cap- 
 italization" of the concern and may or may not be fully 
 paid up. It is at all events the named valuation of what 
 is being put into the concern by those who start it. It is 
 customary to divide this capitalization into so-called 
 ** shares," each of which indicates a distinct fraction of 
 the total capitalization. It would be theoretically possible 
 to have shares of stock issued as ^'one one-hundredth 
 part of the Smith & Brown Company" or one one-thous- 
 andth part, but in practice, under existing law, it is cus- 
 tomary to assign to each share of stock a nominal face, or 
 par, value of its own. The figure which is most commonly 
 used as the par value of a share of stock is $100. Suppose 
 
THE PRINCIPLES OF ACCOUNTING 47 
 
 that Smitli & Brown were incorporated for $10,000 with 
 shares at a par value of $100. This would mean that in 
 all there were 100 shares outstanding, each of the nominal 
 value of $100, or, in other words, that the owner of each 
 share was entitled to one-hundredth part of the value of 
 the concern. Now suppose that Smith & Brown, finding it 
 impossible by themselves to hold the total of the stock in 
 their own possession, decided to sell twenty shares of the 
 par value of $100 each — $2,000 in all — ^to other persons, 
 say employes of the company, at the rate of one share to 
 each. This will at once raise the question of keeping track 
 of the accounts of the different shareholders and of know- 
 ing how the ownership of the shares changes, since laws 
 providing for the government of corporations invariably 
 furnish a means for the sale or transfer of any share or 
 shares from their existing owner to a new or prospective 
 o^^Tier. Theoretically, the fact that the concern is organ- 
 ized as a corporation would not necessarily make any dif- 
 ference with the accounting. There might be opened in 
 the ledger a series of subdivisions of capital account each 
 with the name of the owner of the share as a descriptive 
 heading and the amount of the par value of the share held 
 by him as the credit entry in his section of capital account. 
 Practically, this would be out of the question as soon as 
 the number of shareholders became considerable and 
 would be substantially impossible for bookkeeping reasons 
 as soon as the shareholders began to transfer or combine 
 their holdings. For this reason, additional bookkeeping 
 and accounting methods are resorted to as soon as a con- 
 cern is organized in a corporate form. If the concern does 
 not require that its stock shall be paid up by the persons 
 who subscribe to it (that is put in the capital) at the out- 
 set, they being allowed to pay it in on the installment plan, 
 what is called an installment book must be kept. This is 
 nothing more than an outline record of the names of the 
 original subscribers and the amounts they have paid on the 
 
48 HENRY PARKER WILLIS 
 
 different dates set for the payment of the instalhnents. In 
 addition to this there is opened what is called a stock 
 ledger. The stock ledger simply includes a series of ac- 
 counts with individuals who have subscribed for the stock. 
 When they have fully subscribed, their accounts are of 
 course complete. They then show on the creditor side the 
 amount paid in, and on the debtor side the number of 
 shares assigned to or subscribed for by the particular 
 shareholder. When each has fully paid up his subscrip- 
 tion, his account can be closed. The capital account in 
 the ledger simply represents on its creditor side, as before, 
 the sum total of the cash contributed by the various stock- 
 holders during the period of organization. Some account- 
 ants think it desirable also to open an additional account 
 in the ledger entitled ^'Stockholders Account." Such an 
 account is debited with the total of the shares issued be- 
 cause the stockholders are indebted to the company for 
 that amount. Then when they have paid in their cash this 
 is credited to the stockholders account, and the account is 
 closed, being thereafter of no further service. Meanwhile, 
 a special record of cash has usually been carried during 
 the period of organization, in which are entered on the 
 debit side the amounts of cash received by the concern 
 from stockholders, while on the credit side are entered the 
 amount paid out for expenses and any amounts that may 
 be refunded to stockholders who want to get out of the en- 
 terprise and are allowed to do so under the terms of or- 
 ganization. But at the close of the organization process, 
 the general ledger finds itself with a capital stock account 
 in which is entered as a credit item the sum total of the 
 contributions by all of the stockholders and with a cash 
 account in which is entered as a debit item ''To stockhold- 
 ers" or *'To cash capital" the actual amount of cash which 
 has been received. If some of this cash has been disbursed 
 in the meanwhile for organization expenses, it will neces- 
 sitate the opening of a special expense account in which 
 
THE PRINCIPLES OP ACCOUNTINa 49 
 
 will be entered as a debit entry the organization expenses 
 of various kinds. It is obvious that the sum total of the 
 debit entries in cash and in expense account will equal the 
 total cash capital contributed by the stockholders and 
 credited to the capital stock account as a lump sum. It is 
 clear that the stockholders will want some actual tangible 
 evidence of their ownership in the concern. This is af- 
 forded by establishing a *^ certificate of stock book" which 
 consists of a series of printed or engraved certificates at- 
 tached to stubs similar to the stubs of a check book. The 
 certificate is filled in with the name of the stockholder 
 and the number of shares which the certificate represents 
 and when his stock is paid up the certificate is torn off and 
 given to him. On the stub is an entry of his name, the 
 date at which issued, the serial number of the certificate 
 and the number of shares which it represents. Suppose 
 that such a certificate is issued to John Smith for 30 shares 
 in the new concern. Smith may decide to dispose of 10 
 shares. In that case he will return the certificate and ask 
 to have two new ones made out, one for 20 and the other for 
 10 shares. The old certificate is pasted back to the stub 
 from which it was originally torn and a reference is made 
 to the two new certificates issued in place thereof, giving 
 their numbers. Then John Smith can dispose of his 10 
 shares, assigning the certificate by signing his name on the 
 back in a form provided for that purpose. The new owner, 
 say J. P. Morgan, returns the certificate to the concern and 
 it is pasted back on the stub from which it came, while a 
 new one in favor of J. P. Morgan is issued in lieu thereof. 
 Other books may be found to be desirable for keeping 
 track of the various changes and operations connected 
 with the issue, retirement, and exchange of shares. 
 
 Stock Retained. 
 
 It does not necessarily follow that the Smith & Brown 
 Company will decide to issue all of its shares at once. SmitK 
 
 B— VIII— 4 
 
50 HENRY PARKER WILLIS 
 
 & B^o^^^l after looking the ground over may come to the 
 conclusion that $10,000 is a larger capitalization than they 
 need to start with and that they can get along with a small- 
 er amount which they are able personally to contribute 
 without bringing in outsiders by selling shares to them. In 
 that case, Smith & Brown may resolve each to take out 4d 
 shares, each paying $4,000 in full settlement thereof and 
 not to issue the remaining 20 shares. If this 20 shares 
 thus retained by the concern is held by the concern in gen- 
 eral ownership for a possible future issue, it is called 
 ^'treasury stock." It can, at some later date, be issued, 
 should such a course be determined on as advantageous. 
 For example, if two years after starting. Smith & Brown 
 find that their business is growing and needs more capital, 
 they may determine after all to sell out the $2,000 worth 
 of stock to outsiders. The situation is then the same as it 
 would have been had this stock been issued at the begin- 
 ning. What has happened has been that additional capital 
 is put into the business. The old capital account is closed 
 and a new start is made with the enlarged capital which 
 has now been contributed or **put in." There are other 
 ways in which this treasury stock may be issued, but they 
 will not be considered at this point. 
 
 Payment for Stock. 
 
 As stated at the opening of this section several as- 
 sumptions were made at the outset in speaking of the ques- 
 tion of capital. One of them — the question of ownership 
 — has now been disposed of. A second must next be 
 dealt with. It has been taken for granted thus far that 
 capital is paid up in cash to start with. Such is by no 
 means always the case. In most businesses where the 
 original capital is contributed in the form of money, the 
 money itself is of no service except in so far as a small sum 
 may be kept on hand for current expenses. The money is 
 taken by the managers of the concern and is invested in 
 
THE PRINCIPLES OF ACCOUNTINa 51 
 
 something. In retail trade it is probably largely invested 
 in stocks of goods. In manufacturing it will be largely in- 
 vested in the factory building, the machinery, etc., neces- 
 sary to carry on the operations, but in every case the object 
 of the managers will be to invest it in a form in which it can 
 be used for earning a business profit by buying and selling 
 something. The question may be asked: Why should not 
 the persons who organized the business contribute the 
 things with which business is to be done directly, instead 
 of converting them into money and then having the money 
 expended for buying the same sort of things'? Or to put 
 the point in another way, if the organizers of the concern 
 have the materials for business already available, why 
 should they not be allowed to put them into the business 
 at the start in payment for their stock? There is no reason 
 why this should not be done, and as a matter of fact it is 
 done in probably the large majority of instances. The only 
 serious question that arises in connection with such a 
 matter is that of valuation. It is plain that the persons 
 who are organizing a concern are likely to be given special 
 favor in the purchase of their property which would not 
 be given to outsiders. There may be no particular harm 
 in this if all of those who go in are treated exactly alike — 
 that is to say, have the same degree of favor or over-val- 
 uation allowed them. Of course, if some stockholders are 
 required to contribute money while others are allowed to 
 pay in property, the latter being valued very highly, the 
 operation is merely a shrewd scheme whereby the o-\vners 
 of the property sell it for more than it is worth while the 
 persons who contribute the money pay for the property 
 at too high a valuation. This, however, is a question of 
 business prudence and policy and not primarily of ac- 
 counting. How does such payment in property affect cap- 
 ital account? Let us suppose that Smith Sc Brown in or- 
 ganizing the Smith So "Brown Company determine to do so 
 upon a basis on which Smith contributes a store supposed 
 
52 HENRY PARKER WILLIS 
 
 to be wortli $4,000 while Bro^^^l who has been doing busi- 
 ness in a rented building puts in a stock of goods supposed 
 to be worth $4,000. Here we have the Smith & Brown 
 Company organized with its $8,000 of capital stock out- 
 standing, $4,000 in the hands of Smith and $4,000 in the 
 hands of Brown. The capital account shows a creditor en- 
 try of $8,000. No cash, however, has been contributed so 
 that it is not necessary to open the cash account unless by 
 a fiction the two men are supposed to contribute cash to 
 the amount of their stock which is promptly paid out to 
 them in exchange for their property at the agreed-upon 
 rate. It is, however, necessary to open accounts showing 
 the form which the capital has taken. One of these will 
 obviously be '* goods" in which there will be a debit entry 
 of $4,000 while the other will be "real estate" in which 
 there will be a debit entry of $4,000, the two totaling the 
 same as the nominal contributions of Smith & Brown to 
 the capital. Suppose, however, that Smith & Brown rec- 
 ognized that the items of property they had put in were not 
 worth, as an actual matter of selling value, the sums at 
 which they were set down in our supposition, although 
 they believed that they might be justified in so represent- 
 ing them because of the fact that they had an established 
 trade that would enable them to pay interest or dividends 
 on a total of $8,000. What change would this make in the 
 accounting? If Smith & Bro^oi were determined, as we 
 have assumed, to keep this stock outstanding, it would be 
 necessary, if they were to have a true valuation of assets 
 at less than the face of the stock, that there should be 
 opened at the start some other account which would ac- 
 count for or represent the difference between the nominal 
 value of the shares issued and the actual value of the assets 
 put in. For example, if we assume that the building con- 
 tributed by Smith is really worth $3,000, while the stock 
 contributed by Brown is also worth only $3,000, while the 
 shares issued are still $8,000, then we have a situation in 
 
THE PRINCIPLES OF ACCOUNTING 53 
 
 wliicli capital stock account shows a credit entry of $8,000, 
 while real estate shows a debit entry of $3,000 and 
 goods account a debit entry of $3,000. Another debit 
 entry of $2,000 must be provided somewhere not merely 
 from the standpoint of practical bookkeeping in order that 
 the books in which these accounts are recorded may *' bal- 
 ance," but also in order that the student of these accounts 
 may know exactly what was the nature of the value or 
 assets on the strength of which the capital stock was 
 issued. It is necessary, then, to raise another account to 
 carry this $2,000. Almost any appropriate heading may be 
 employed for this account. One frequently employed is 
 that of ''good will." By opening a "good will account" with 
 a debit entry of $2,000 it is made to appear that, of the 
 capital stock issued by Smith & Brown, incorporated, 
 $3,000 is real estate, $3,000 actual value of goods, while 
 $2,000 is represented merely by experience, prestige, or 
 business acquaintance — in other words, "good will." 
 Some concerns, where the process of putting the shares on 
 the market has been long and expensive, carry an account 
 called "organization expenses." In this may be put as 
 debit entries any discounts that may have been allowed 
 to stockholders in order to induce them to come in as well 
 as commissions paid to persons who have assisted in put- 
 ting the stock on the market. On the other hand, the stock 
 may be issued at a premium. Suppose for example that 
 Smith & Brown considered the assets they had contributed 
 as worth more than the par value of the stock outstanding, 
 they would still have a capital account which would show 
 the par value of the stock outstanding. The real estate 
 and goods account would show debit entries of (say) $4,500 
 respectively. It would be necessary then to open some ac- 
 count to show what disposition has been made of the excess 
 of real assets over capital. This might be done by opening 
 an account entitled "reserve" or "surplus" with a credit 
 entry of $1,000. This credit entry would be composed of 
 
64 HENRY PARKER WILLIS 
 
 (in our illustration) two items "By real estate $500'' 
 
 and "By goods . . . .$500," because $500 was the excess of 
 the value of the real estate contributed by Smith over and 
 above the stock issued to him, while $500 is also the excess 
 of the value of the goods contributed by Brown issued by 
 him. If the stock had been issued for cash the credit entry 
 in reserv^e account would be "By cash $1,000." 
 
 Payment for Bonds. 
 
 Although the capitalization of a concern is usually 
 spoken of as if it applied only to the stock issued, and al- 
 though a great many people are in the habit of thinking 
 of bonds as if they represented a loan made by a company 
 for the purpose of making up deficits or losses or for the 
 purpose of paying in part for property purchased which 
 the concern was unable to liquidate in cash, such is by no 
 means usually the case. On the contrary, bonds are fre- 
 quently issued at the outset of the business as a means of 
 representing a part of the capitalization of the concern. 
 In that event there is no reason why the accounting for the 
 bonds should not be carried on as a phase of the capital ac- 
 count. A "bond account" is opened and is conducted in 
 precisely the same way as capital account. The total bonds 
 issued have yielded a certain amount of cash. The first 
 entry in bond account then is on the credit side just as in 
 the case of capital and is "By cash. . . .$ ." If the bonds 
 are issued at a discount or at a premium, the method of 
 dealing with them is the same as that which was followed 
 in dealing with capital stock under similar conditions. 
 
 Y. CASH ACCOUNT. 
 
 Theory of Cash. 
 
 In our early simple illustrations, it was assumed that 
 actual cash was received and paid for every item bought 
 and every item sold. Thus, when an individual went into 
 
THE PRINCIPLES OF ACCOUNTINa 55 
 
 business lie was supposed to put in cash as representing 
 his capital. This gave rise at once to a debit entry in cash 
 account corresponding to the credit entry in capital ac- 
 count and signifying that the stock of cash held by the con- 
 cern was simply the amount of cash that had been put in 
 as capital. That is to say, the concern at starting had a 
 certain amount of cash which constituted its assets and 
 owed an equal amount to the proprietor for the capital 
 which he had invested. Later we saw that the capital is not 
 necessarily represented by cash at all, although for the sake 
 of convenience it may be assumed that the property is put 
 in in the form of cash and that this cash is as promptly dis- 
 bursed at a specified rate to the members of the concern 
 in return for various tangible assets which it has been 
 agreed they shall put in at a determined valuation. How- 
 ever this may be arranged, every concern starts with some 
 cash, since that is necessary to pay running expenses, so 
 that as a matter of fact the first entry in cash account in 
 the ledger is invariably on the debtor side where it indi- 
 cates that a portion of the capital has taken the form of, 
 or has been contributed in, actual cash. This is strictly 
 true, however, only in those cases where the concern has 
 the cash physically on hand in its safe or cash drawer. It 
 should be understood, however, that the amount of cash 
 which is carried in this way in modem businesses is not 
 large. Theoretically, a concern might insist on being paid 
 in cash for everything it sold or did, and might stand ready 
 to pay cash for everything it bought or had done for it. It 
 might go so far as to demand the actual transfer of money 
 in each case. But ordinarily it does not do this. 
 
 Modern Means of Payment. 
 
 In lieu of cash payments, it is much more customary to 
 pay or be paid in a check or draft on a bank or in commer- 
 cial paper. The use of these means of payment in lieu of 
 cash makes it necessary to establish other methods of ac- 
 
56 HENRY PARKER WILLIS 
 
 counting corresponding thereto. These other accounts, 
 however, have a very close and intimate relationship to 
 cash, inasmuch as ultimate convertibility into cash is the 
 test of the goodness of every check, draft, or piece of com- 
 mercial paper that passes between business men. It is 
 necessary, therefore, to consider the methods of accounting 
 applicable to these other means of payment not only in 
 their relation to the business itself but also in their relation 
 to cash account for the reason just stated. The other 
 methods of payment may now be considered. 
 
 The Bank and the Check. 
 
 In modern business every man who carries on transac- 
 tions of any considerable size, and even those whose 
 transactions are small but who want to have an accurate 
 record of everything thej^ pay, deal through banks. The re- 
 lation of the bank to the business man has several aspects, 
 but at this point we will consider merely its aspect as a 
 keeper of actual money. For example. Smith & Brown 
 when they started business may be assumed to have put in 
 their capital in the form of actual gold coin to the extent 
 of $8,000. Not wishing to keep this amount in the safe, 
 they decide to deposit it in a bank which they have selected 
 for the purpose. The entry in the cash account as has been 
 seen is on the debtor side and is (Smith & Brown being 
 
 organized as a corporation) ''To capital $8,000." 
 
 When this cash is placed in the bank (the First National 
 having been selected) the cash account will stand as fol- 
 lows : 
 
 CASH. 
 
 Dr. Cr. 
 
 Jan. 1 To capital 
 
 $8,000 
 
 Jan. 1 By 1st Nat'l Bank $8,000 
 
 This simply shows that $8,000 was paid in in cash as a 
 result of the contributions of capital and was promptly 
 paid out again in the form of a deposit in the First National 
 Bank. Of course a bank account with the First National 
 
THE PRINCIPLES OF ACCOUNTINa 57 
 
 should likewise be opened and that would stand as follows; 
 
 FIRST NATIONAL BANK. 
 Dr. Cr. 
 
 Jan. lITo cash deposit |$8,000 11 I I 
 
 Suppose that Smith and Brown, instead of paying in 
 their contributions of capital in the form of coin, have sim- 
 ply turned them in in the form of checks. After endorsing 
 these checks in the firm's name, the bookkeeper or cashier 
 of the concern might take them direct to the bank and de- 
 posit them, in which case the account of the First National 
 Bank would stand exactly as above. There would then be 
 no absolute necessity for passing the items through cash 
 account. Theoretically, since they are equivalent to cash 
 and could be changed into cash at the banks on which they 
 are drawn, they might be treated simply as gold coin and 
 entered on the debtor side of cash account just as in the 
 illustration already given, then re-entered on the creditor 
 side when deposited, a corresponding debtor entry being 
 made in the First National Bank account as soon as the de- 
 posit had been effected. This would merely mean that 
 there had been a compensating entry on each side of cash 
 account which was thereby relieved of further responsi- 
 bility for the $8,000, such responsibility being transferred 
 to the bank. A method which might be followed by some 
 concerns would be to omit bank account entirely and treat 
 all checks received as actual cash items. In such a case 
 it would be left to the bank to keep track of the deposits 
 made with it, whether in the form of cash or checks, and to 
 record them in the pass book of the concern. That is to say, 
 the concern would simply conduct its cash account on the 
 original basis, regarding checks received and checks given 
 by it as cash, and simply treating its deposit in the bank as 
 a fund placed there for safekeeping. Proper accounting, 
 however, calls for a segregation of cash and bank items. 
 What has been said about sums that are received in the 
 
58 HENRY PARKER WILLIS 
 
 form of checks and are redeposited in banks applies in like 
 measure to sums that have been paid out in the form of 
 checks drawn by the concern on its own bank. As just 
 seen, it would be possible to regard all such payments as 
 payments of cash to be offset by drawing money out of the 
 bank and debiting it to the cash account. In practice, the 
 preferable way would be to pass through the cash account 
 only those items that were actually received in the form of 
 cash and redeposited, or were drawn out of the bank in the 
 form of cash to meet payments over the counter and were 
 then disbursed in that way, while receipts of checks di- 
 rectly deposited in the bank should be entered direct as 
 debtor items in bank account and payments made by 
 check should be entered as creditor items in bank account. 
 The firm's pass book at the bank then serves as a means of 
 testing the correctness of the debtor side of bank account 
 since it shows the total of deposits which the firm has made 
 there, as recorded by the employe of the bank, while the 
 firm's own check book serves as a test of the correctness 
 of the creditor side of bank account since the stubs of the 
 checks, if correctly written up as the checks are drawn, 
 show the amount which the bank has been called upon to 
 pay in behalf of the firm to its creditors. The bank account 
 is treated exactly the same as the cash account and pay- 
 ments of cash into bank are credited to cash and debited to 
 bank, while withdrawals of actual cash from bank are 
 treated as credits to bank account and debits to cash. If 
 J. P. Morgan gives the concern of Smith & Brown a check 
 on his bank in liquidation of dry goods which he has bought 
 from Smith & Brown, this then means a creditor entry on 
 
 J. P. Morgan's account ''Jan. 1 By check $100," and 
 
 appears in bank account (if it is the only deposit for the 
 
 day) as "Jan. 1 To J. P. Morgan check $100." If 
 
 John W. Gates and others have given similar checks to the 
 concern, the items may; be lumped together on the debtor 
 
THE PRINCIPLES OP ACCOUNTING 59 
 
 side of bank account as ''Jan. 1 Deposit $500," al- 
 though an enumeration of the names would be preferable. 
 
 Use of Commercial Paper. 
 
 In many cases persons who buy from others are not in 
 position to pay cash or (what is the same thing) give 
 checks on banks payable upon demand. They want time 
 in which to liquidate their obligations. For instance, sup- 
 pose that James Jones buys a bill of $500 worth of goods 
 from Smith & Brown expecting to retail it in his small 
 shop. He may not have the $500 in hand and may want 
 thirty days' credit in order to have time to sell the goods 
 and realize on them, at least in part. He may, therefore, 
 arrange with Smith & Brown at the outset that he will 
 not be required to pay in cash but that the goods shall sim- 
 ply be carried on his "open" account. In other words he 
 makes payment only in ''credit" — that is, he does not 
 make any immediate payment at all. How shall this trans- 
 action be accounted for? In the first place it evidently 
 gives rise to a credit entry in goods account. Supposing 
 that goods is already debited with $4,000 (the amount orig- 
 inally contributed by Richard Brown as the stock of goods 
 with which to start business), what has happened has been 
 that $500 worth of goods has been drawn from goods ac- 
 count. Goods account or the stock of goods on hand has 
 parted with that amount and must therefore be credited to 
 that extent. This would make the goods account appear 
 somewhat as follows : 
 
 GOODS. 
 
 Dr. Cr. 
 
 Jan. 1 iTo capital |$8,000 lljan. 1 [By James Jones |$500 
 
 James Jones must now be represented in an account on 
 the books which will appear as follows: 
 
 JAMES JONES. 
 Dr. ^^- 
 
 Jan. 1 iTo goods 
 
 $500 
 
60 HENRY PARKER WILLIS 
 
 At the end of the thirty days for which credit was ex- 
 tended to Jones, the latter may appear and pay his ''bill" 
 by handing in money or a check, in which case the account 
 is closed as described above (See page 37). But it is more 
 likely that at the outset Smith & Brown will have refused 
 to let Jones have the goods unless he has given them some 
 piece of commercial paper as evidence of his indebtedness. 
 Such a piece of commercial paper might be found in a 
 *'note" reading as follows: 
 
 $500 New York City, January 1. 
 
 Thirty days after date for value received I promise to pay to the order of 
 Smith & Brown Five hundred dollars with interest at 6 per cent. 
 
 James Jones. 
 
 Suppose that Smith & Brown had received such a 
 ''note," how would they account for the fact that it had 
 been paid in? In the first place it would have to be re- 
 garded by them as completely liquidating the account of 
 James Jones. James Jones' account then would appear as 
 follows : 
 
 JAMES JONES. 
 
 Dr. Cr. 
 
 Jan. 1 
 
 To goods 
 
 $500 
 
 Jan. 1 
 
 By note I $500 
 
 If the firm was in the habit of receiving a good many 
 such notes the entry on the credit side would probably be 
 assigned a number and in that case the entry might be "By 
 
 bill receivable No. 1 $500." The receipt of this paper, 
 
 however, would make it necessary to account for that fact 
 elsewhere. How would this be done? The bill receivable 
 is not cash nor is it as yet a claim on a bank. It is neces- 
 sary then to open an account entitled "Bills Receivable." 
 That account will stand as follows : 
 
 BILLS RECEIVABLE. 
 
 Dr. Cr. 
 
 Jan. 1 
 
 To bill receivable No. 1 
 
 $500 II I 
 
 ir r 
 
 Any other form of commercial paper might have been 
 given and accepted by the concern in the same way. For 
 
THE PRINCIPLES OF ACCOUNTINa 61 
 
 example, the concern might have been authorized by James 
 Jones to ''draw" on him at thirty days for the goods. Smith 
 and Brown might have made out a "bill of exchange" 
 which might have been "accepted" in the technical sense by 
 James Jones. In this case the entry would probably have 
 been made in the account of James Jones and of bills re- 
 ceivable in the same way — the "paper" received would 
 have been put down simply as "bill receivable No. 1." 
 Then in a "bills receivable" book all of the particulars 
 about the given bill would have been recorded and if in- 
 formation about it was wanted recourse could be had to the 
 bills receivable book where it would be found under the ap- 
 propriate number. Of course when such a bill receivable 
 was taken by the concern the fact would have been re- 
 corded in the day book and would doubtless have been 
 journalized as explained in the section on Books (Page 28). 
 The accounting thus far has not been changed at all in 
 principle or method but is exactly identical with that which 
 would have been adopted had payment been made in cash 
 or a check, the bills receivable account being opened in 
 order to account for, or keep track of, bills receivable that 
 have come in, just as cash takes account of cash and bank 
 account takes account of checks received. 
 
 Process of Discount. 
 
 But now a further modification is necessary. Suppose 
 that Smith & Brown when they received the "note" 
 given them by James Jones, needed the cash immediately, 
 what could they do*? In such a case they have access to 
 their bank, one of whose principal functions is that of "dis- 
 counting paper" or in popular language "lending money." 
 Smith & Brown take to the First National Bank the note 
 for $500 payable thirty days after date at 6 per cent and 
 ask the bank to let them have the funds. The bank thinks 
 the paper good, that is, it believes that James Jones will 
 he likely to liquidate at the maturity of the note. It may 
 
62 HENRY PARKER WILLIS 
 
 ask Smith & Brown to ''endorse" the note (whicli they 
 do by writing their firm name on the back of the paper). 
 The bank then takes over the note as one of its assets. 
 That is, in this case it practically buys the note from Smith 
 & Brown subject to Smith & Brown's guarantee that 
 it will be paid at maturity. Wliat effect does this have 
 upon the accounting? Obviously the first effect is that of 
 passing the note out of the hands of Smith and Brown and 
 into that of the bank. This means a credit entr.y in bills re- 
 ceivable account which will then stand as follows: 
 
 BILLS RECEIVABLE. 
 
 Dr. Cr. 
 
 Jan. 1 To bill rec. No. 1 
 
 $500 
 
 Jan. 1 
 
 By bills rec. No. 1 
 discounted 
 
 $500 
 
 This means that the bill receivable has been disposed of 
 and of course the corresponding record is made in the bills 
 receivable book and the other books. If the bank at which 
 the note was disposed of has paid cash, an entry is made 
 on the debtor side of cash account for $500 thus: "To bill 
 rec. No. 1 discounted. . . .$500." What is more likely is that 
 the bank will not pay cash but will credit the account of 
 Smith & Brown with the amount. This means that the 
 bank account kept by Smith & Brown is debited, that is, 
 a debtor entry of $500 is made there thus: "To bill receiv- 
 able No. 1 discounted $500." Still another modifica- 
 tion must be introduced. The note which was given by 
 James Jones to Smith & Browm in our illustration bore 
 interest at 6 per cent and we have assumed that this rate 
 was so satisfactory to the bank that it simply took the note 
 over. But James Jones, as we have seen, might have 
 paid in the form of a bill of exchange. This would have 
 amounted to making the bill simply collectible at maturity 
 without any interest. Smith & Brown were willing to do 
 this for the sake of selling the goods. The bank, however, 
 is not willing to let Smith & Brown have the face of the 
 note without any interest and so it exacts an interest or 
 
THE PRINCIPLES OP ACCOUNTING 63 
 
 *' discount." If the rate is 6 per cent, this will amount to 
 one-half of one per cent for the thirty days, which on $500 
 will be $2.50. In other words, the bank will give Smith 
 & Brown only $497.50 either in cash or in the form of a 
 ''deposit." How should the ''discount" thus exacted by 
 the bank be accounted for on the books of Smith & 
 Brown ? They have parted with the bills receivable so that 
 that account is not affected at all in this case any more than 
 in the case where Smith & Brown got the full face of the 
 note. The transaction analyzed is simply this — Smith & 
 Brown have paid $2.50 for immediate cash. The transac- 
 tion can be accounted for, then, by making a debtor entry in 
 cash account or bank account, as the case may be, for the 
 $497.50 and then adding a debtor entry of $2.50 in profit 
 and loss account; or, instead of the latter entry, by opening 
 a "discount account" and making a debtor entry in that 
 
 thus: "Jan. 1, To discount on bill rec. No. 1 $2.50." 
 
 This discount account represents expense on the debtor 
 side and will consequently be ultimately transferred to 
 profit and loss since it is a section of that account as already 
 explained (see p. 21 above). Another way of accounting for 
 the transaction would be to make the debtor entry in bank 
 account for the full amount of the face of the note, credit- 
 ing bank account simultaneously with the discount or cred- 
 iting cash with the discount instead, then opening the dis- 
 count account in the same way and debiting it or debiting 
 profit and loss direct as already explained. What would 
 have happened then would have been that Jones paid 
 Smith &> Brown in an obligation not due until thirty days 
 from date, while the firm in order to get immediate use of 
 the money would have disposed of the obligation to the 
 bank and would have increased its bank or cash account to a 
 corresponding extent, the transaction, however, involving 
 it in an expense or cost known as ** discount," which is 
 reckoned as a money loss to the concern and is so repre- 
 sented. Very much the same object would have been at- 
 
64 HENRY PARKER WILLIS 
 
 tained if James Jones had paid to Smith & Brown the 
 sum of $497.50 direct and in order to do this had borrowed 
 from the bank. In that case, however, Jones would not, 
 perhaps, have been able to get the accommodation which 
 the bank was very ready to give so long as the note was 
 guaranteed by Smith & Brown. 
 
 Bills Dishonored. 
 
 A further problem in accounting presents itself in case 
 James Jones as a result of bad business finds himself un- 
 able to liquidate his note when it is presented by the bank 
 to which it was sold. If this should happen, the note or 
 draft is said to be "dishonored." The bank might then 
 proceed against Jones and endeavor to collect the amount. 
 In practice, however, it would not take that course, 
 but would return the obligation to Smith & Brown from 
 whom it was originally obtained and who sold it or had it 
 discounted. The bank would be enabled to return it be- 
 cause of the fact that the obligation had been endorsed by 
 Smith & Brown at the time when they first entered into 
 relations with the bank. If they are in a solvent condition, 
 they will have to receive back from the bank the note or 
 draft which was given to them by Jones. This means that 
 they will have to pay the bank what they originally got 
 from it. How does this change the accounting*? In the 
 first place, it of course alters the account with the bank, 
 giving rise to a credit entry for the amount which should 
 have been paid by James Jones had he honored the bill. 
 This credit entry in bank account means that the account of 
 the firm with the bank is decreased (that is, its net balance 
 is lessened) by the amount in question. The credit entry 
 in bank account is then offset by a corresponding debtor 
 entry in the account of James Jones who should have paid 
 the obligation. Suppose that Jones (as heretofore as- 
 sumed) gave the bill on the 1st of January for thirty days 
 
THE PRINCIPLES OP ACCOUNTINa 65 
 
 and consequently dishonors it on the 30th of January. 
 Then his account will stand as follows: 
 
 Dt. 
 
 JAMES JONES 
 
 . 
 
 Cr. 
 
 Jan. 1 
 Jan. 30 
 
 To goods 
 " bill rec. No. 1 
 dishonored 
 
 $500 
 500 
 
 Jan. 1 
 
 By bill rec. No. 1 
 
 $500 
 
 This shows that, although during the 30 days interven- 
 ing between the period when the note was given and the 
 date when it is received back the account of James Jones 
 is settled or balanced, on and after the 30th of January 
 he is again in debt to the firm for $500 which now appears 
 as a debtor entry in his account. The question what to do 
 with Jones and his indebtedness is now a legal problem or 
 a problem in business policy and is one with which the ac- 
 countant has nothing to do pending the time that Jones is 
 prevailed upon to make a settlement. His default may be 
 due to circumstances over which he has no control and in 
 that event he may renew the bill, in which case his account 
 would be credited with his renewal thus offsetting the 
 debit entry already made. Simultaneously a debit entry 
 for the new bill would be made in bills receivable account. 
 The firm might prefer not to have this detailed transaction 
 appear on its books and hence might suspend entering 
 anything until after it had seen Jones and had come to an 
 agreement with him. If the situation was amicably ad- 
 justed, it might secure an extension from the bank, thus 
 obviating the credit entry in bank account already referred 
 to and rendering it unnecessary to make any other entries 
 on the books. If the bill had not been discounted but had 
 been dishonored by Jones when directly presented by the 
 firm on the 30th of January, the entries would have been 
 a credit to bills receivable and a debit to Jones' account. 
 This would simply have meant that Jones, having failed 
 ito pay, was Liable to the firm for the amount of his dis- 
 honored bill while bills receivable account would have sur- 
 rendered this bill, it no longer being a live piece of paper, 
 
 B— VIII— 6 
 
66 HENRY PARKER WILLIS 
 
 and would therefore be credited for it. If then a new bill 
 were made by Jones, the transaction would be treated as 
 an entirely new one, just as before — that is, Jones' account 
 would be credited for the new bill while bills receivable 
 would be debited. If Jones on settling pays some interest 
 in cash for the original term of the bill, as he probably 
 would be likely to do, his account would be debited with 
 that amount and a corresponding credit would be entered 
 in profit and loss because interest is an earning or gain. 
 If an interest account were kept, separate from profit and 
 loss, but as a section thereof, the interest entry would be 
 made in interest account and subsequently transferred to 
 profit and loss. A fresh discount payable to the bank for 
 the period of renewal would be accounted for as in the case 
 of the original discount. 
 
 Bills Payable. 
 
 It will have been inferred by the reader, of course, 
 that what has been said about the matter of bills receiv- 
 able is true in precisely the same way of bills payable. 
 Smith & Brown may do just as Jones did — pay for a 
 consignment of goods with a note or other piece of com- 
 mercial paper running for 30 days or some other period. 
 That is, they have issued an obligation against themselves. 
 Suppose that Smith & Brown, after organizing with a 
 stock of goods valued at $4,000, concluded that their stock 
 was inadequate at certain points and so bought from Wil- 
 liam Wilson $500 worth of goods additional, giving Wilson 
 a note for thirty days for the amount. Then goods ac- 
 count would look as follows : 
 
 GOODS. 
 Dr. Cr. 
 
 Jan. 1 
 Jan. 1 
 
 To capital $4,000 
 
 " Wm. Wilson 500 
 
 At the same time an account would be opened for Wil- 
 liam Wilson as follows : 
 
THE PRINCIPLES OF AOCOUNTINa 67 
 
 WILLIAM WILSON. 
 
 Dr. 
 
 
 
 
 Cr. 
 
 Jan. 1 /To bill payable No. 1 
 
 $500 
 
 Jan. 1 
 
 By goods 
 
 $500 
 
 Here William Wilson's account is balanced and there 
 is an entry of $500 on the debtor side of goods account. 
 This is offset by opening an account with bills payable 
 as follows: 
 
 BILLS PAYABLE. 
 
 Dr. Cr. 
 
 ' j [ lljan. 1 I By bill payable No. 1 j 
 
 I I II I |$500 
 
 Here the note given to William Wilson is described as 
 **bill payable No. 1," and an account intended to keep 
 track of or to describe bills payable is opened and entitled 
 *' Bills Payable." This account is credited with the bill 
 payable that has been given because the concern has parted 
 with a bill payable, that is, has created a liability to that 
 extent w^hich thus finds its place on the books and in so 
 doing offsets the debit entry made in goods which was aug- 
 mented by the $500 worth of commodities which was re- 
 ceived by the firm on consignment from William Wilson. 
 In case interest is paid at the maturity of the bill payable, 
 that constitutes a loss or expense to the business, and is 
 so entered on the debtor side of profit and loss or of inter- 
 est as the case may be. In case the firm is not able to 
 meet its bill payable at maturity, it will probably secure 
 a renewal, and may entirely omit any accounting on its 
 books, or it may preferably regard the bill payable as paid 
 at maturity and an entirely new bill issued which of course 
 gives rise to the same entries over again. 
 
 Relation between Cash and Quasi-Cash Accounts. 
 
 From what has been said, the importance of the rela- 
 tionship between cash, bank, bills receivable, and bills pay- 
 able accounts, is plain. These four accounts constitute 
 an important group or series having intimate connection 
 with one another inasmuch as bank account loses cash to, 
 
68 HENRY PARKER WILLIS 
 
 or gains cash from, casli account, wMle cash account does 
 the same with respect to bank, and bills receivable may be 
 converted into bank credit or cash at any time while bills 
 payable maturing become claims upon and thereby reduce 
 cash or bank account. It is thus clear that a concern Avhich, 
 in making a showing of its assets and liabilities, merely 
 states the amount of cash on hand or the sum to its credit 
 in bank does not give a fair idea of its position. The inquirer 
 wants to know about how heavy a draft is likely to be 
 made upon its cash or its bank credit by reason of the 
 approaching maturity of bills payable, and conversely he 
 needs to know about how much the cash or bank account 
 is likely to be strengthened by the maturing of bills re- 
 ceivable which will presumably result in bringing cash into 
 the possession of the concern. If the concern has discount- 
 ed its bills receivable as they came in at the bank, endors- 
 ing them of course as it is obliged to do, it has thereby 
 created what is called a *' contingent liability," which of 
 course does not appear in the accounts, as explained, be- 
 cause it is assumed that every maturing bill will be met. 
 The contingent liability of the concern can then be fairly 
 and truly exhibited to the student of its condition only by a 
 statement of such contingent liabilities or by the adoption 
 of some system of designating on the books of the concern 
 the amounts that were realized through the discounting 
 of bills having the firm's endorsement and which therefore 
 may be regarded as a possible liability that will have to 
 be met in case the persons who gave the bills do not meet 
 them upon presentation. 
 
 VI. GOODS ACCOUNTS. 
 
 Nature of Goods. 
 
 In dealing with the goods or merchandise account of a 
 concern we practically assumed, when speaking of the sub- 
 ject first, that there was no entry except the general entry 
 
THE PRINCIPLES OP ACCOUNTINa 
 
 69 
 
 representing the total value of goods wliich had been 
 realized and placed on the shelves or in the storage rooms 
 of the business as the result of the outlay of capital, to 
 await the disposal by sale in the course of trade. This 
 might theoretically be true — that is, goods might be ob- 
 tained by direct purchase in specified amounts. They 
 would come in as independent consignments and could be 
 entered in the way already indicated. As a matter of fact, 
 goods would not come in in this way in ordinary business 
 nor would the single entry to which we have referred be 
 an adequate amount of information for a concern which 
 was beginning business. For instance, in our illustration 
 of a case where Smith & Brown were supposed to put in 
 actual property instead of cash. Brown supplying a stock 
 of goods worth at estimated value $4,000, the concern 
 would want to know a good deal more about the details 
 of the operation than would be indicated in that way. 
 Probably in such a case a complete inventory of all of the 
 items of goods thus put in by Brown would be made out 
 and filed. With this in hand, the goods account might be 
 opened in the way indicated or with an entry of this kind: 
 *'To capital; goods contributed by Richard Brown as per 
 
 inventory $4,000." If it were desired to do so, there 
 
 would be no reason why a short consolidated statement 
 of these goods might not be entered on the debtor side 
 of goods account thus : 
 
 GOODS. 
 
 Dr. 
 
 Cr. 
 
 Jan.H 
 
 To capital, goods 
 contributed by 
 Richard Brown 
 dress goods $3,000 
 notions, etc., 50O 
 
 other goods 500 
 
 $4,000 
 
 The statement might be continued to any desired length, 
 but in practice it would be better to refer to the inventory 
 which gives the complete detailed statement of items and 
 
70 HENRY PARKER WILLIS 
 
 can be referred to as occasion may demand when informa- 
 tion about tlie quantity of goods obtained from Brown 
 at the start is wanted. 
 
 Goods on Invoice. 
 
 In our previous illustrations we assumed that when 
 the concern bought goods from William Wilson it simply 
 made a corresponding entry showing the total bought from 
 William Wilson and thus added to goods. Of course it 
 would want to have a much more detailed record than this 
 of the items it received. William Wilson would bill the 
 goods in detail in the form of an invoice which would be 
 received by Smith & Brown either previous to, or simulta- 
 neously wdth, the receipt of the consignment. By pre- 
 serving this invoice in a book established for the purpose 
 (see p. 33 foregoing), he would have a complete record 
 of the items received from William Wilson. If the con- 
 cern was in the habit of buying from Wilson regularlj^, 
 it would want to know what entries in the goods account 
 corresponded to Wilson's shipments and so in making the 
 entry now under consideration it would assign the invoice 
 a number. Then the entry might be as follows: ^'To 
 
 William Wilson, Invoice No. 1 $500." By referring 
 
 to the invoice book at any time when the information was 
 desired, it could then be seen what had been obtained on 
 that occasion from Wilson. 
 
 Goods Returned. 
 
 But in many instances Smith & Brown would not find 
 that the invoice corresponded exactly to what they wanted 
 and they might therefore wish to return the goods. In 
 the same way persons who bought from them might be 
 dissatisfied and return goods to Smith & Bro^Ti. This 
 would give rise to a necessity for some way of recording 
 the fact that goods once sold or bought had been returned. 
 In practical bookkeeping, this question of returns is a 
 
THE PRINCIPLES OF ACCOUNTING 71 
 
 matter involving some little difficulty of technique in order 
 to keep exact account of goods received or sent out. 
 A bare reference may be made to the bookkeeping phase 
 of the matter and then the accounting side of such 
 transactions can be explained. It is likely to be 
 necessary to make such returns both to firms from 
 whom goods have been purchased and to accept them 
 from individuals who have purchased from the firm, quite 
 constantly. The wrong goods may be shipped, or they 
 may arrive in an imperfect condition, or returns may be 
 necessary for other reasons. The invoices, as we have 
 seen, including of course on their face the items th-at are 
 now to be returned, have been recorded or filed and it may 
 be that the proper ledger entries (as well as the entries 
 in intervening books) have been made up before the neces- 
 sity of returns is discovered. One way of taking care of 
 such transactions as a matter of original entry is to have 
 a book dealing with ''inward returns" and one dealing 
 with ''outward returns." In the first is set down each day 
 the goods that come back to the concern from persons to 
 whom they have been sold, while in the latter is set down 
 the merchandise returned by the concern to firms and indi- 
 viduals from whom it has been bought. The inward and 
 outward returns books are thus supplementary to the pur- 
 chases and sales books and the purchases book, which 
 shows by transactions in chronological order (see p. 30) 
 the goods that have been obtained by the firm, 
 will, when studied in connection with the outward 
 returns book, show the net amount that has been ob- 
 tained by the concern from outsiders. So also the sales 
 book when studied in connection with the inward returns 
 book will show the net amount that has been disposed of 
 by the concern during the fiscal period under considera- 
 tion. We may now glance at the accounting side of this 
 question of returns. Going back to our original illustra- 
 tion where William Wilson sold Smith & Brown a bill 
 
72 
 
 HENRY PARKER WILLIS 
 
 of goods worth $500, it will be remembered that the trans- 
 action gave rise to a debit entry of $500 in goods account 
 and a credit entry of $500 in William Wilson's account. 
 Now suppose that a day or two after receipt of the con- 
 signment, Smith & Brown on unpacking the goods find 
 that one item consisting of 100 yards of dress goods is 
 damaged. The goods are shipped back to Wilson (assum- 
 ing of course that the responsibility for the damage has 
 been fixed upon Wilson and that it has not occurred en- 
 route, in which case of course it may fall on someone else) 
 and the proper entries are made in the outward returns 
 book. This practically reduces the amount of the goods 
 that were obtained from Wilson. The whole of the goods 
 has been entered in goods account on the debtor side, how- 
 ever, and so this item is entered on the creditor side as 
 offsetting the quantity of goods represented by the total 
 invoice on the debtor side. The account will then stand 
 as follows: 
 
 GOODS. 
 
 Dr. 
 
 Cr. 
 
 Jan.! 
 Jan. 2 
 
 To capital 
 " William Wilson 
 (Inv. No. 1) 
 
 $4,000 
 500 
 
 Jan. 1 
 
 By returns (Inv. No. 1) 
 
 $100 
 
 This shows that Wilson's Invoice No. 1 has given rise 
 to a credit in goods account of $100 which means that 
 Wilson has had that value of goods shipped back to him. 
 In Wilson's own account there will be a corresponding 
 entry and his account will stand somewhat as follows : 
 
 Dr. 
 
 WILLIAM WILSON. 
 
 Cr. 
 
 Jan. 1 ITo goods returned I 
 
 I (Inv. No. 1) |$100 
 
 Jan. 1 \By goods Inv. No. 1 
 
 $500 
 
 This process would be reversed if James Jones who 
 bought a bill of goods from Smith & Brown had been 
 dissatisfied with one item in the consignment and had con- 
 sequently shipped it back to Smith & Brown. It may 
 
THE PRINCIPLES OP ACCOUNTINa 73 
 
 be supposed that on receiving the articles, Smith & 
 Brown look over the stuff which has thus been reconsigned 
 to them and find it damaged as alleged by Jones. After 
 recording the fact of the receipt in the inward returns 
 book, and duly journalizing, the operation will result in 
 a credit entry in the account of James Jones while goods 
 account will be debited. This means simply that the stock 
 of goods has been increased by the amount of goods that 
 has been returned while the claim of the fiiTn on Jones 
 has been diminished by the sale value of the goods 
 shipped back. In order to avoid frequent entries in goods 
 account, the amount of returns inward or outward may 
 be debited or credited only as a monthly total, leaving the 
 inward and outward returns books and the personal ac- 
 counts of Wilson, Jones and others to exhibit the detailed 
 facts. 
 
 Consignments. 
 
 In what has been said about dealings in goods or mer- 
 chandise thus far, the assumption has been throughout that 
 the goods were sold for cash, or on credit, or else on the 
 strength of a bill receivable of some kind, li, is not al- 
 ways possible or desirable for firms to deal exclusively 
 by means of direct sale on any one of these bases. The 
 firm may find it difficult or impossible to get others to 
 run the risk of taking its goods and paying for them in 
 cash, or to obligate themselves by the creation of commer- 
 cial paper to pay for the goods at a specified money value 
 at some time in the future. This may be because the goods 
 are perishable and the concern to whom the goods are 
 sent does not want to run the risk of their becoming spoiled 
 while in stock or it may be that the firm which sells the 
 article wishes to have the transaction carried on through 
 an agent in order to insure control of prices or for some 
 other reason. In such cases, the goods are disposed of on 
 consignment and the proper accounting features have to 
 
74 HENRY PARKER WILLIS 
 
 be, added in order to show what has been done. Let us 
 suppose that Smith & Brown, the firm of our illustration, 
 desire to place a special line of goods with Thomas Taylor 
 in a neighboring town in order that Taylor may dispose 
 of them to his customers. Taylor is not willing to take 
 the goods on his own risk because he is doing a small busi- 
 ness, but he tells Smith & Brown's agent that he will 
 accept the goods on consignment. A shipment of $100 
 worth of "notions" is sent him at once. What accounting 
 will be necessary? Taylor has not bought the goods and 
 has incurred no liability whatever for them. He has 
 merely agreed to give them room in his shop and if they 
 are sold to return the money to Smith & Brown, deduct- 
 ing, say, 10 per cent commission for his services. The 
 true facts in the situation may be represented in the follow- 
 ing way. A consignment account for Thomas Taylor is 
 opened in the ledger and this is debited with the amount 
 of goods shipped. This gives rise of course to a credit 
 in goods account which may read "By consignment to 
 
 Thomas Taylor $100." Suppose Taylor goes on and 
 
 sells the goods successfully, the price in such cases of course 
 being fixed by Smith & Brown. They have directed him 
 to sell the goods in such a way as to realize, say, $120. 
 Taylor takes in this amount, deducts his 10 per cent com- 
 mission, $12, and remits a draft for the difference — $108 — 
 in favor of Smith & Brown. This will give rise to a 
 debit entry in bank account because the draft is presum- 
 ably deposited in bank. If a corresponding credit entry 
 is made in Thomas Taylor's consignment account the trans- 
 action will have been correctly represented. Supposing 
 that Smith & Brown had to pay express charges amount- 
 ing to $1 on the consignment, this would be properly rep- 
 resented by a debit entiy of $1 in Thomas Taylor's con- 
 signment account because that would result in correctly 
 exhibiting what the cost of the goods landed in Taylor's 
 establishment is to Smith & Brown. The outlay for ex- 
 
THE PRINCIPLES OF ACCOUNTING 75 
 
 press charges might simply have been debited to profit 
 and loss or to freights and express account (for ultimate 
 transfer to profit and loss), but it would be better to keep 
 it with the consignment to which it belongs and in that 
 case the entry would be made as already indicated. 
 Thomas Taylor's consignment account might then look as 
 follows : 
 
 CONSIGNMENT ACCOUNT. 
 
 (Thomas Taylor.) 
 Dr. Cr. 
 
 Jan. 1 iTo goods j$100.00 11 Jan. 30 I By draft Thomas 
 
 Jan. 1 " express charges 1.00 I Taylor as per 
 
 statement $108.00 
 
 |$1 
 
 This account would now be closed by entering a debit 
 
 balance as follows: "To balance to profit and loss 
 
 $8.00." This sum would then be entered as a credit in 
 profit and loss account as follows: "Jan. 30, By Consign- 
 ment Account (Thomas Taylor) $8.00." So far the 
 
 process of accounting where goods are shipped on con- 
 signment has presented no difficulty. Taylor has been a 
 trustworthy man and the goods have been safe in his pos- 
 session. The assumption of the accounting has been merely 
 that a certain stock of goods has been set apart in a safe 
 place to be disposed of by Thomas Taylor and this expec- 
 tation has been justified. Suppose, however, that Taylor 
 has no success in selling the goods so that the time comes 
 when the books are to be closed and the returns from 
 Taylor amount only to a small sum. In this case the ac- 
 count still stands open and the balance on the debtor side 
 representing the excess of the goods over the amount which 
 Taylor has remitted in cash is really a section of goods 
 account since it shows goods on hand. These goods are 
 an asset and will be so represented in the final statement 
 or balance sheet the concern makes. In closing the con- 
 signment account the goods still in the hands of Thomas 
 Taylor would be given a value either based on their original 
 shipping value or else based on a statement made by Taj^lor 
 
76 HENRY PARKER WILLIS 
 
 as to the present worth of the goods and this amount would 
 be credited to Thomas Taylor's consignment account be- 
 fore balancing. The reader will remember that this is ex- 
 actly the same method of treatment that was indicated in 
 connection with the closing of goods account itself. The 
 balance of the account then represents the actual profit 
 made on that portion of the goods which has been sold. If 
 of course the consignment had been shipped just before 
 closing the books so that no time had been afforded for 
 Taylor to sell anything, the account would be closed by 
 simpty entering on its credit side a value corresponding 
 to that of the goods shipped and then treating the value 
 of the consignment as the opening entry (debtor side) of 
 Taylor's consignment account for the ensuing period. In 
 this case there would be no entry to transfer to profit and 
 loss inasmuch as no commercial operation would have been 
 performed. The consignment account is thus really a sec- 
 tion of goods account and Thomas Taylor has not figured, 
 except for the purpose of identification. Suppose, how- 
 ever, that Taylor, knowing the desire of Smith & Brown 
 to be closely informed of how the sale of the consignment 
 is going, decides simply to send them a statement and to 
 wait before remitting until he can collect from his cus- 
 tomers who perhaps have bought the goods on credit. 
 Taylor reports, let us say, that he has sold $50 worth of 
 the goods at the end of the first week. What is the situa- 
 tion? Taylor has sold the goods and has either received 
 the cash for them or else the promise to pay, either oral 
 or written, of his customers. He is therefore liable to 
 Smith and Bro\^Ta for the amount of his sales. Instead 
 of entering anything to the debit of bank or cash account, 
 therefore. Smith and Brown are now at liberty to, and 
 should, open a personal account with Thomas Taylor mak- 
 ing a debit entry to open as follows: '^Jan. 8, By goods 
 as per statement. .$50." But how about the accounting 
 of Thomas Taylor himself, or to keep the illustration per- 
 
THE PRINCIPLES OF ACCOUNTING 77 
 
 feet, how about the accounting of Smith & Brown if 
 they had received a consignment from Thomas Taylor? 
 When the goods were received no account needs to be 
 opened. Taylor in this illustration has shipped the goods 
 to Smith & Brown on his own risk and the latter have 
 received them but they have not become liable therefor. 
 It will of course be desirable to check over the items along 
 with the invoice and make sure that they are correctly 
 stated. A detailed memorandum entered in a memoran- 
 dum book which may be called ''Warehouse Book," is 
 desirable simply as a record, and this practically serves 
 as an inventory statement of all original consignments sent 
 to and received by the firm. Suppose, however, that Smith 
 & Brown sell at once $50 of the consignment they have 
 received from Thomas Taylor. Suppose that these items 
 were sold for cash over the counter. Then, of course, cash 
 must be debited for the amount of cash taken in, or bank 
 account must be debited if the payment is made in checks. 
 If the customers are known to the firm and so get their 
 goods on credit, the debit entries are made in their accounts 
 for the amounts that they buy. What has happened now 
 is that the firm has received cash or bank credit or claims 
 upon other individuals by selling goods belonging to Thom- 
 as Taylor. Smith & Brown then must open a personal 
 account with Taylor because they are now in debt to him 
 for the amount that they have received as above indicated. 
 A credit entry showing a liability on the part of Smith 
 & Bro^^^l is therefore made in Taylor's pei^sonal account. 
 If the firm has had to pay any shipping expenses or others 
 connected with the consignment, corresponding debit en- 
 tries are made. Of course Smith & Brown's commission 
 on Taylor's goods is also debited. Wlien the consignment 
 has been disposed of, the difference between the amount 
 realized on the goods (as shown on the credit side of Tay- 
 lor's account) and the amount charged against the goods 
 for expenses and commissions (as shown on the debit side 
 
78 HENRY PARKER WILLIS 
 
 of Taylor's account) is ascertained. This is the net sum 
 owing to Ta.vlor. Suppose the amount is $90 and a draft 
 is remitted to Taylor. This draft is a credit in bank ac- 
 count and of course is charged to Taylor's personal ac- 
 count as a debit. The account can now be balanced and the 
 difference between the amount received for the goods on 
 the one hand and the amount remitted to Taylor plus the 
 expenses on the other will be Smith & Brown's com- 
 mission. This sum can now be credited to profit and loss 
 account because it represents a clear gain or profit. 
 
 Trading Accounts. 
 
 The principles which have just been set forth in con- 
 nection with consignments may be, and customarily are, 
 carried a good deal further in connection with certain 
 phases of business which may most conveniently be ex- 
 plained at this point. The reader will have noticed that 
 in analyzing consignment accounts we endeavored, for 
 reasons there stated, to apportion the actual direct ex- 
 pense incurred in connection with a consignment to that 
 particular consignment, the reason assigned for so doing 
 being that it was desirable to know exactly what the par- 
 ticular venture in question had cost the concern. The same 
 idea works out in very much greater detail as soon as a 
 business develops into a concern of any degree of complex- 
 ity or becomes involved in operations of large size involv- 
 ing several factors for their successful completion. It then 
 becomes exceedingly desirable to know, so far as possible, 
 which expenses have been incurred for certain transac- 
 tions. Evidently, unless this can be kno^m, the concern 
 has no definite idea whether it is doing a profitable busi- 
 ness in those lines or not. Tlie sum total of the business 
 may show a small profit and yet there may be a very 
 shrewd suspicion that some of the operations in which the 
 concern is engaged result in actual losses. Whether they 
 do so or not cannot be told because the special expenses 
 
THE PRINCIPLES OF ACCOUNTING 79 
 
 incurred in connection with them are not segregated. It 
 is this idea and the necessity of apportioning expenses 
 and costs that gives rise to the necessity for cost account- 
 ing — a necessity which will be considered later on in this 
 treatment. At this point it is enough to say that in keep- 
 ing account with goods it is oftentimes not desirable to have 
 a distinct separation of expenses from the goods in con- 
 nection with which expenses are incurred but it is desirable 
 to have expenses so charged as to bring them into close jux- 
 taposition with the operations that have given rise to them. 
 For example, in the case of the small operation just 
 studied in which Smith & Brown and Thomas Taylor 
 were supposed to be participants, suppose that Smith & 
 Brown had been put to rather heavy expense in transmit- 
 ting the goods and that the expenses of shipping, all told, 
 came to $9, whereas the profit was only $8. Evidently if 
 this consignment was one of, say, one hundred or more 
 and if the outlays for express and freight, insurance, etc., 
 had simply been charged in lump sums chronologically to 
 expense account, insurance account, etc., the firm would 
 have had no way of knowing at the end of the month 
 whether there had been an actual profit in the Taylor busi- 
 ness or not. Now exactly the same thing is true on a much 
 larger scale where the concern handles several lines of 
 goods under its own roof. For example, suppose that 
 Smith & Brown decide to make their business a small 
 department store and in one department they handle dry 
 goods, in another, groceries, and in another, house equip- 
 ment and furnishings of various kinds. It is found that 
 a certain amount of freight, etc., has to be paid and a cer- 
 tain amount of wages for salesmen, etc., has to be laid out 
 while, let us suppose, the business has grown quite rapidly 
 so that it is not possible for the salesmen to shift about 
 from one department to another. Smith & Brown have 
 been keeping their goods account, wages account, freight 
 and express account, etc., as general accounts, during the 
 
80 HENRY PARKER WILLIS 
 
 first six months of their life, simply entering in each the 
 amounts expended without any reference to whether they 
 were incurred in selling dry goods, groceries, or house- 
 wares. On July 1, they decide to make a change and the 
 books are closed. After taking inventory, it is found that 
 there is left over from the transactions of the preceding 
 six months a stock valued in all at $6,000, which is equally 
 divided between dry goods, groceries, and house-wares. 
 The opening entry in the goods account on the old plan 
 would now evidently be as follows (on the debtor side): 
 
 *'July 1, To stock on hand $6,000." But it is clear that 
 
 there would be an advantage in dividing the goods account 
 up into three sections, one corresponding to each of the 
 departments. These might be entitled "Goods (dry-goods 
 department) Account," "Groods (groceries department) 
 Account," and *' Goods (house-wares department) Ac- 
 count." In each of these there would be a debit entry of 
 the total amount on hand as shown per inventory (in this 
 case by the terms of our supposition) $2,000. Then in 
 carrying on the accounting for the dry-goods department 
 there would be entered on the debit side not only tiie value 
 of any additions that might be made to the stack m that 
 particular department but also any expenses that were 
 actually incurred for the purpose of getting it placed on 
 the shelves or of getting it off the shelves and into the 
 hands of the consumers. On the credit side would be en- 
 tered of course the amount sold and in addition any spe- 
 cific profits or earnings that might have accrued through 
 the efforts of that particular department. Suppose that 
 during the month of July one-half the stock of goods 
 (worth $1,000 inventory value) was sold for $1,200, while 
 during the same period it was necessary to pay wages to 
 the amount of $100, freight, etc., to the amount of $25, and 
 incidental expenses, $10. Then the account for that de- 
 partment would stand as follows: 
 
THE PRINCIPLES OF ACCOUNTING 
 
 81 
 
 Dr. 
 
 GOODS. 
 
 (Dry-goods Department.) 
 
 Cr. 
 
 July 1 
 July 31 
 July 31 
 July 31 
 
 To stock on hand 
 " wages 
 " total freights 
 " miscellaneous 
 
 $2,000 
 
 100 
 
 25 
 
 10 
 
 July 31 By sales 
 
 July 31 " goods on hand 
 
 $1,200 
 1,000 
 
 Here the section of the goods account which deals with 
 dry goods shows that articles which cost the firm $1,000 
 have been parted with and in their stead $1,200 in cash 
 has been received, but that in this process of changing 
 goods into cash there has been incurred an expense amount- 
 ing fo $135. At the end of the month, assuming that the 
 goods still left on hand are worth as much as they ever 
 were, there is a net profit in the department of $65, or in 
 other words the department has paid for its own individual 
 expenses and it has $65 left over which it can contribute 
 to the business for the purpose of paying profits on in- 
 vested capital or general expenses. General expenses are 
 mentioned for the reason that no mention has been made 
 of these among the debit entries in dry-goods department 
 account. In the form which we have used, the general ex- 
 penses would just as formerly be carried in the general 
 expense accounts — rent, taxes, etc. — and ultimately trans- 
 ferred to profit and loss. It might be possible to assign 
 some of these to the departmental account — for instance, 
 by ascertaining what proportion of the expenses of various 
 kinds, such as insurance, was incurred for groceries, what 
 for dry goods and what for house-wares. Beyond a certain 
 point, however, this apportionment would become rather 
 uncertain, and it would be preferable to carry it in the 
 general expense accounts as one of the inevitable concomi- 
 tants to the running of the business rather than to try to 
 segregate it. 
 
 The question how far such segregation will in practice 
 be expedient and desirable is a question that can be settled 
 only as the conditions of the business require and about 
 
 B— VIII— 6 
 
82 HENRY PARKER WILLIS 
 
 which no definite rule can be laid down. The fact remains 
 that in every business involving either the establishment 
 of departments under one roof or the establishment of 
 branches in different places some application of this idea 
 of segregation of expenses, coupled with their assignment 
 to the particular business operations that have given rise 
 to them, is called for. Where such an arrangement is made 
 upon an accounting basis like that indicated above, the 
 account is called a *' trading account" and it is theoretically 
 said to be a ''mixed" account, inasmuch as it involves both 
 goods entries and expense entries, which latter theoretically 
 pertain to profit and loss accounting. Reference will be 
 made to this matter at a later point in the discussion (see 
 p. 145). 
 
 Closing Inventory. 
 
 Reference has already several times been made to the 
 question of an inventory and it has been pointed out that 
 such a statement of items as are taken over by the business 
 and constitute its stock in trade is needed at the outset 
 and should be filed in detail as one of the original records 
 of the concern. It is clear from what has been said thus 
 far that as goods are sold the stock is reduced, while as 
 invoices and bills of goods are purchased it is increased. 
 The accounting system which has been described keeps 
 track of the outflow of goods in exchange for money and 
 of the inflow of new goods in exchange for the firm's 
 money. If it were possible to trace every item through 
 the various accounts to which it is assigned in the process 
 of accounting and if it be assumed that no losses whatever 
 occur in the stock of goods through waste, theft, etc., the 
 difference between the original inventory and the items 
 sold would show the items remaining. It would not show 
 the value of the items remaining because their original 
 value is set down as the cost or basic value to the concern 
 while the values at which the sold items are recorded on 
 
THE PRINCIPLES OF ACCOUNTING 83 
 
 the books are the values which the concern has established 
 as proper rates of remuneration to it and are normally an 
 advance over the original cost of these articles. But it 
 is plain that to ascertain the amount of the stock left on 
 hand in this way would be practically impossible as a mat- 
 ter of actual procedure. The method adopted is to take 
 an inventory of the goods at the close of each fiscal period. 
 This inventory shows the number of items of each class 
 of goods remaining on hand, and they may then be assigned 
 a value at their present probable worth, or they may be 
 given the value which is determined by what they origin- 
 ally cost to the concern. Which one of these modes of as- 
 signing the value of the goods will be followed will of 
 course depend upon a variety of considerations among 
 which the character of the goods is an important one. If 
 they have not varied much in value, being of a staple char- 
 acter, there may be no particular reason for trying to re- 
 value them. 
 
 VII. PLANT AND PROPERTY ACCOUNTS. 
 
 Relation to Preceding Discussion. 
 
 In everything that has been said thus far, it has been 
 assumed that the concern of which we were speaking was 
 primarily engaged in the retailing of goods and that in 
 carrying on this business it did not require very much in- 
 vestment in things other than those which constituted the 
 basis of its sales. True, in analyzing the business of Smith 
 & Brown, we assumed that one item of the investment 
 of the concern was a shop or building in which the busi- 
 ness was to be conducted. But we fairly implied that this 
 might be regarded as a substantially stable investment 
 which did not change materially in value and which could 
 be looked upon simply as a part of the assets of the con- 
 cern permanently placed in a form which did not yield 
 any direct income, but which nevertheless enabled the con- 
 
84 HENRY PARKER WILLIS 
 
 cern to avoid the expense of rent and thereby made it 
 worth while to use the funds of the business in that way. 
 It is now necessary to observe that a business fiirm is not 
 necessarily in the position which has thus been sketched 
 but that almost every business is obliged to invest a part 
 of its funds in ]3hysical assets which are not the basis of 
 its buying and selling process but which afford the means 
 for going on with the enterprise. Thus, for instance, the 
 retail shop of the kind we have been speaking of may own 
 its own building and that building may not change very 
 largely in value, but it is further probable that in addi- 
 tion to the building the concern will have had to invest 
 a substantial sum in furniture, fixtures, and the like, and 
 that these articles will wear out as time goes on. The 
 same thing is true in a much higher degree of a concern 
 that is engaged in manufacturing and puts part of its cap- 
 ital into tools, machinery, and the like. In speaking of the 
 question of inventories at the close of the last section, we 
 noted that a concern may find that its stock of goods un- 
 sold has changed in value somewhat during a fiscal period, 
 so that in restating their value for the purpose of closing 
 the books, the concern is obliged to recognize an element 
 of loss, or possibly of gain, due to fluctuations in the price 
 of articles remaining unsold. Where a concern carries on 
 hand a large stock of raw material of a kind that fluctuates 
 in value from day to day it may appear that at the end 
 of a fiscal period the stock on hand is w^orth very much 
 less or very much more than it was at the beginning and 
 that there is here an element of gain or loss which the con- 
 cern is not responsible for in so far as relates to its active 
 business transactions, although of course it may have 
 adopted a conscious business policy which looked to the 
 carrying of a large stock of raw material or goods with a 
 definite view to probable appreciation in value. It will, 
 however, be found that in every concern, whatever ele- 
 ments of appreciation or growth in value there may be, 
 
THE PRINCIPLES OF ACCOUNTINa 85 
 
 there is always an element of depreciation. This depre- 
 ciation is the consequence of the wearing out of assets and 
 if the true condition of the business is to be correctly rep- 
 resented, it must be allowed for. The problem thus indi- 
 cated gives rise to the question of accounting for depre- 
 ciation (and of course, conversely, for appreciation). This 
 is present in every concern. It is therefore necessary to 
 consider with care the accounting phases of this question. 
 
 Plant and Property Accounts Described. 
 
 Under ordinary conditions, a concern which is starting 
 in business and which has invested a part of its cap- 
 ital in fixed forms will seek to classify these fixed forms 
 by kinds or groups and to open an account with each 
 kind or group. Thus, recurring to the affairs of Smith & 
 Brown, it will be remembered that we supposed that they 
 put $4,000 into a shop for the conduct of their business 
 or that they included as a part of their capital to start 
 with a shop valued at $4,000. This was represented at 
 the opening of business in an account headed real estate 
 and opened somewhat as follows : 
 
 REAL ESTATE. 
 Dr. Cr. 
 
 Jan. 1 
 
 To capital, building 
 contributed' by 
 John Smith, 
 
 $4,000 
 
 Now let us change the terms of this supposition some- 
 what by assuming that the value of this building was only 
 $2,000, but that John Smith had contributed in addition 
 show cases and the like set up in place and worth $1,000, 
 while we may further assume that he had supplied delivery 
 wagons and horses valued at $1,000. Under this supposi- 
 tion, it is clear that instead of entering $4,000 as the value 
 of the building contributed by John Smith the entry would 
 be changed to $2,000. It would then be desirable to open 
 
86 HENRY PARKER WILLIS 
 
 an account with fixtures Avliich would be done somewhat 
 in the following manner: 
 
 FIXTURES. 
 Dr. Cr. 
 
 Jan. 1 
 
 To capital, cases, etc., con- 
 tributed by John Smith 
 
 $1,000 
 
 An account would likewise be opened with horses and 
 wagons or preferably one with horses and one with wagons. 
 Supposing that the establishment had three horses and 
 three delivery wagons the horses being assumed to be 
 worth $450 and the wagons $550, accounts might be opened 
 as follows: 
 
 HORSES. 
 
 Dr. 
 
 
 
 Cr. 
 
 Jan. 1 
 
 To capital, 3 horses con- | 
 tributed by John Smith $450 
 
 
 
 
 WAGONS. 
 
 Dr. 
 
 Cr. 
 
 Jan. 1 To capital, 3 wagons con- 
 tributed by John Smith $550 
 
 All of these accounts might have been grouped together 
 perhaps under the head of "Plant and Property Account" 
 with subsections for the different kinds of plant and prop- 
 erty, as Real Estate, Fixtures, Horses, Wagons, etc., just 
 as in the case of goods we saw fit to subdivide it into sec- 
 tions corresponding to the various departments whose op- 
 erations it w^as desired to analyze. In either case, the re- 
 sult is the same. That is to say, John Smith's portion 
 of capital account carries a credit entry of $4,000, which 
 indicates the accepted valuation of the things which he 
 has put into the business. These various things at their 
 respective values are now scattered through a series of 
 accounts, the debtor entry in each of which is the par- 
 ticular asset which gives its name to the account and which 
 is set down there at a total valuation corresponding to what 
 it is estimated to be worth in proportion to the other items 
 of property. The sum total of these debtor entries in the 
 
THE PRINCIPLES OP ACCOUNTING 87 
 
 property accounts represents the total that has been put 
 in by John Smith and corresponds to the total creditor 
 entry in his section of capital account, or $4,000. Thus 
 far the innovation made upon our original simple supposi- 
 tion is merely that of assuming that, instead of putting 
 in a single class or kind of asset, he puts in a number of dif- 
 ferent kinds of assets which are classified as already in- 
 dicated for purposes of analysis or convenience. The situ- 
 ation would have been the same if he had put in $4,000 of 
 cash at the start, and if then this cash had been laid out in 
 buying for the firm the items of plant and property w^hich 
 it actually needed. A similar classification would have 
 been adopted had the concern been engaged in some other 
 line of business, except that the classification would have 
 corresponded with the particular forms of business assets 
 which would then have been secured. Thus if Smith & 
 'Btovtd. had been conducting a bank and John Smith had 
 put in $4,000 cash, this amount might have been spent in 
 part for the purchase of a banking establishment, in part 
 for furniture and fixtures and in part for safes or vaults. 
 Accounts would then have been opened with Banking 
 House, Fixtures, and Safe and Vaults. Or if Smith & 
 Brown had been engaged in the printing business, the ac- 
 counts might have been Real Estate, Presses, Typesetting 
 Machines, etc., the classification being developed as far as 
 was deemed desirable and each of these accounts carry- 
 ing as its opening debtor entry the amount actually spent 
 in getting that particular kind or class of machinery or 
 fixed plant installed. 
 
 Depreciation. 
 
 Suppose the concern of Smith & Brown, engaged in 
 the dry-goods business, continues its operations for a year 
 and then wants to know where it stands. Looking over 
 the property it finds that the building has been somewhat 
 damaged, there being an estimated loss of $200 in value. 
 
88 HENRY PARKER WILLIS 
 
 It finds that tlie fixtures as the result of a year's hard 
 wear have deteriorated to the extent of $100, while one 
 of the delivery wagons in an accident has been injured, 
 thereby resulting in a loss of, say, $150. How can the con- 
 cern represent these facts in such a way as to make a cor- 
 rect showing at the end of the year? Evidently if it merely 
 assumes that the building, fixtures and wagons are worth 
 the same as they were, it will have overlooked a total loss 
 or expense, incurred during the year, amounting to $450. 
 If it made no effort to record this, but simply assumed 
 that the fixed assets were worth as much at the end as 
 they were at the beginning of the year, it would be mis- 
 representing its profits by $450, because if the concern were 
 to be liquidated the money value of its fixed assets would 
 be $450 less than when they were originally taken over 
 by the firm. This would mean that, if the concern first 
 replaced the capital at the same amount at which it was 
 originally stated, it would have $450 less cash than the 
 books now show. Some regular and recognized way of 
 representing this depreciation must therefore be deter- 
 mined on and put into effect. 
 
 ** Writing Down" the Assets. 
 
 The most obvious way of recording depreciation of the 
 kind already described would be that of ascertaining the 
 value of the assets at the end of the year, and then making 
 the corresponding entries in the accounts. If, for example, 
 it was found that the building owned by the concern had 
 lost $200 in value as Just assumed, the real estate ac- 
 count (described on p. 85) would have a credit entry 
 somewhat as follows: *' December 31, By damage 
 
 through wear and tear $200." The corresponding 
 
 debit entry would appear in profit and loss as * 'December 
 
 31, To damage to building $200." This would merely 
 
 mean that in footing up profit and loss account an extra 
 sum of $200 was recorded on the debit or expense side 
 
THE PRINCIPLES OP ACCOUNTINa 89 
 
 and that in that way the showing of profit was reduced 
 $200 below what it would otherwise have been. This would 
 mean that if the showing of profit otherwise made was, 
 say, $500 it would now be only $300. In other words, if 
 the concern had expected to have $500 of free cash to dis- 
 tribute in dividends, it would now find that it was disap- 
 pointed in this expectation, since it would have only $300. 
 But the extra $200 would remain in the possession of the 
 concern in the form of cash. What would have happened 
 then would have been that the concern had itself con- 
 sciously put aside or retained in the business $200 repre- 
 senting the value of destroyed or wasted assets which have 
 been reduced in value, by deducting that amount from the 
 gross profits of the year. If the same plan were applied to 
 the fixtures account, horses account and wagons account, 
 the result would be to retain in the hands of the business an 
 amount of extra cash which, if expended, would restore 
 the fixed assets to their original value. So far the account- 
 ing would have been adequate, because it would have indi- 
 cated the reduction in the value of the assets, the deduc- 
 tion from profits and the increase of cash to correspond. 
 It is clear, however, that if this process were continued, 
 the capital assets would be gradually reduced and it would 
 give rise to corresponding additions to cash in hand. This 
 would mean that one of three uses would have to be made 
 of the cash thus accumulated: (1) It might be directly 
 reinvested in restoring the capital assets to their original 
 condition. In that event an entry would be made in the 
 proper accounts, as fixtures, etc., on the debit side. This 
 entry would represent, say, in the ease of the building, the 
 fact that $200 (the amount of the wear and tear) had 
 been put back into the concern, thus restoring the build- 
 ing to the same original value with which it started; or 
 (2) the cash might be set aside as a distinct cash fund 
 saved for the purpose of ultimate replacement of assets; 
 or (3) it might be deemed wise to use this cash in extend- 
 
90 HENRY PARKER WILLIS 
 
 ing the business by putting it into the purchase of a larger 
 stock of goods or other floating assets. It is well to note 
 that in every business there will regularly be a certain de- 
 mand for ordinary repairs, renewals, replacements and the 
 like. These outlaj^s are a part of ordinary running expens- 
 es and should be dealt with in precisely the same way as 
 other ordinary running expenses. Such outlays do not 
 mean that depreciation in the proper sense has been pro- 
 vided for. Depreciation is the larger conception of general 
 loss of value rather than that of special and minor injury 
 due to use. 
 
 *' Writing Down'* not always Satisfactory. 
 
 While, as we have seen, the process of writing down 
 assets is truthful and (if correctly done) gives a sound 
 and accurate idea of the exact status of the business at 
 the end of the fiscal period, it is not always satisfactory. 
 One objection to ** writing down" the assets is that the 
 original cost and the full extent of provision for depre- 
 ciation during the life of the assets is not readily ascer- 
 tained from the accounts. Moreover, the process 
 does not tell what has been done with the cash repre- 
 senting the reduction in assets, although a study of the ac- 
 counts will reveal where such cash has gone. Moreover, 
 the direct expenditure of funds thus set apart out of 
 profits for the purpose of restoring the same assets 
 to exactly their original condition is not always possible. 
 Thus the deterioration of the building which we supposed 
 to be represented by $200 at the end of the first year may 
 be due simply to the wearing off of paint, etc., the indica- 
 tions being that in the course of another year a complete 
 renovation would cost $400, which is at the rate of $200 
 per annum, even though it may not be deemed wise to make 
 any direct expenditure on the building at the time. In 
 
THE PRINCIPLES OF ACCOUNTINa 91 
 
 the same way, the horses owned by the concern are grow- 
 ing older year by year and are losing value to that extent, 
 but they will continue serviceable for a number of years 
 and the amount of their deterioration per annum is not 
 sufficient to buy a new horse. The difficulty of apportion- 
 ing depreciation and of putting back exactly the same qual- 
 ity and value of assets as have been destroyed by use, 
 becomes greater and greater as the business becomes more 
 and more complex. While, therefore, the process of writ- 
 ing down the assets to correspond with their true value 
 is useful and necessary, it alone does not supply an 
 adequate and complete accounting for the change that has 
 taken place in the nature of the firm's assets. What can 
 be done to complete this accounting? In the analysis al- 
 ready made, it was assumed that an entry is made on the 
 credit side of the fixed plant and property accounts, this en- 
 try giving rise to a corresponding debit entry in profit and 
 loss,, indicating a loss of that amount. Instead of proceed- 
 ing in this manner the accounting may be carried on as 
 follows : After making the proper credit entry in the fixed 
 plant and property accounts just as before, a "deprecia- 
 tion account" may be raised and, instead of carrying the 
 corresponding debit entry to profit and loss, it may be en- 
 tered in this depreciation account. The entry may be made 
 as a lump sum representing the estimated total deprecia- 
 tion which has been spread out over the real estate, horses 
 and wagons and other accounts, in which case the account 
 would stand somewhat as follows : 
 
 DEPRECIATION, 
 Dt. <^r. 
 
 Dec. 31 j Wastage of assets for 
 
 I past year [$450 
 
 All this amounts to is that instead of entering the total 
 loss of assets as a loss in profit and loss account it is now 
 entered as depreciation. In order to close depreciation 
 account, if nothing further is done the balance will have 
 
92 HENRY PARKER WILLIS 
 
 to be transferred ultimately to the debit side of profit and 
 loss and thus the same result will be arrived at as before. 
 Depreciation account is here a section or subdivision of 
 profit and loss. Suppose, however, that the concern, not 
 thinking it desirable to retain the cash idle, or to divide it 
 among the stockholders, or to reinvest it either on the fixed 
 assets or in increasing the floating assets, determines to 
 invest it as a special fund to be drawn upon in the future. 
 Suppose it is decided to buy bonds with the amount. An 
 entry is made in cash account to show that cash has been 
 parted with in order to pay for these bonds. This will 
 be a credit entry in cash somewhat as follows: *'Dec. 31, 
 
 By cash for investment bonds $450." The concern, 
 
 however, in the course of this transaction has acquired 
 bonds, hence a bond account called perhaps "Depreciation 
 Fund" must be opened to represent the accession of assets 
 mth a debit entry as follows: "Dec. 31, To U. S. bonds. . 
 $450," it being assumed that the United States bonds are 
 the class of securities in which investment has been made. 
 What has now been done has been to show the existence 
 of a depreciation of specified amount, to indicate the fact 
 that cash has been disbursed for the purpose of offsetting 
 such depreciation and finally to show that, in this process 
 of disbursing cash, sundry assets have been acquired which 
 have taken a special form — that of bonds. It will be noted 
 that according to this method the depreciation is not a nec- 
 essary charge against income of a definite period, but a 
 charge against such surplus as the concern may accumulate. 
 This may be an important consideration in connection with 
 some phases of cost accounting, as will later appear. 
 
 Depreciation Reserve. 
 
 It may, however, be impossible to spread depreciation 
 accurately and minutely over the whole of the plant in 
 all of its details, and the concern may not want to attempt 
 a process which will necessarily be inaccurate in some de- 
 
THE PRINCIPLES OF ACCOUNTINa 93 
 
 gree. If that be tlie case it may be considered wise simply 
 to set aside a certain sum for the purpose of providing 
 a fund out of which to meet depreciation when such de- 
 preciation is recognized in the future or when it has gone 
 to such a point that it can be accurately measured. In 
 this case the concern may simply determine to lay aside 
 a more or less arbitrary sum out of profits with which to 
 meet possible future depreciation. We may assume that 
 at the end of the year an expert man goes through the 
 plant and comes to the conclusion that the probable annual 
 depreciation will be about $450, although he feels uncer- 
 tain as to precisely how much should be assigned, say, to 
 plant or fixtures. Some of the considerations affecting 
 his judgment will be sketched later. At this point it may 
 be assumed that his judgment is taken as sufficiently ac- 
 curate. The concern determines therefore to set aside 
 $450 out of the gross indicated profits. This will be done 
 by making a debit entry in profit and loss after gross 
 profit has been ascertained while a corresponding credit 
 is entered in a new ledger account called ''Reserve Fund" 
 or ''Surplus." This sum may be disposed of in any way 
 that the concern decides to be desirable. If it now follows 
 the same policy as before and invests in bonds, it of course 
 draws on cash to that extent, thus crediting cash. A 
 bond account will be opened and will be debited for the 
 amount spent for the bonds. The reserve and bond ac- 
 counts are now open and the credit entry in the one is the 
 same as the debit entry in the other. The reserve is prac- 
 tically a part of capital account, it being a sum retained 
 in the business while the bond account with its debit entry 
 merely means that capital assets have been invested to 
 that extent in bonds. If at some time in the future it 
 is ascertained what depreciation has occurred, the assets 
 are written down to that extent and a corresponding debit 
 entry is made In reserve, reducing it by a similar amount. 
 The concern has the bonds among its assets and they will 
 
94 HENRY PARKER WILLIS 
 
 appear as such. If, liowcver, it is desired to restore the 
 assets to their original condition by drawing on the re- 
 serve, the bonds will be sold in whole or in part and bond 
 account will be credited correspondingly. The cash thus 
 realized will of course be debited to cash and when spent 
 in repairing or replacing the assets cash wi'^ be credited 
 and a corresponding debit entry in the assets account will 
 be made. Meanwhile, if the fixed assets have not been 
 revalued, or, Avhat is the same thing, if depreciation has 
 not occurred, they appear at their original value and the 
 amount carried to reserve fund is simply a net addition to 
 the funds invested in the business. If, however, it has 
 been determined simply to use the cash on hand and re- 
 tained in the business as a reserve or as offsetting depre- 
 ciation, in the same way that any other cash would be 
 used, the concern will reduce its valuation of the fixed as- 
 sets and will use a corresponding amount of cash in buy- 
 ing more floating assets. Here there is a gradual transfer 
 of fixed assets into floating, the reduction in the value 
 of the fixed assets being represented by the process of 
 writing off, while the regular accounts with the floating 
 assets are increased to correspond to outlays of cash made 
 for the purchase of further items of property for use in 
 doing business. The concern knows that it is putting back 
 into the business as much as it is losing from the business 
 in the shape of wasted assets, and it is satisfied with the 
 fact that the business has in all of its branches the same 
 amount of value that it originally had, even though this 
 value is now differently distributed.* 
 
 Choice of Methods. 
 
 A choice between these different methods of account- 
 ing for depreciation cannot be arbitrarily indicated but 
 
 * What has been said of the treatment of depreciation may be summarized 
 by quoting from Mr. Cole (Accounts, page 89) with reference to the way in 
 which depreciation may appear on the balance sheet (Cf. our own section on 
 balance sheets, pp. 161. fif., of the present volume). Mr. Cole remarks: "Depre- 
 cation fund . . . may appear on the balance sheet in one of three combina- 
 tions: (1) among assets only — in which case specific property is set aside to 
 
THE PRINCIPLES OF ACCOUNTINa 95 
 
 must depend somewhat on the kind of business in which 
 the problem presents itself and the policy which it is de- 
 sired to follow in connection with the business. Theoreti- 
 cally, the simplest way of dealing with the matter is that 
 of setting aside a given sum as an allowance for depre- 
 ciation, the nominal assets being reduced by a correspond- 
 ing amount and all payments for new assets being made out 
 of this fund. Practically, the ordinary business will usually 
 not follow this plan but will adopt the system of annually 
 putting into various forms of machinery or plant, about 
 the amount that it is considered the assets have run down 
 each year. This gives rise to continued debit entries either 
 in the various plant and machinery accounts or in a better- 
 ments and improvements account, and to corresponding 
 credit entries in cash account which pays for them. If the 
 old assets are reduced in value by revaluation, such reval- 
 uation being exhibited through credit entries representing 
 the wastage, these credit entries will be paralleled by debit 
 entries in the corresponding machinery or assets accounts. 
 If the wastage is less than the reinvestment, the surplus 
 will show on balance sheet as an increase or. If more, as 
 a reduction of assets. The cost of the betterments goes 
 to profit and loss as an expense. The important matter 
 from an accounting standpoint is that the value of the cap- 
 ital in the business shall be maintained and so represented. 
 Changes in the value of particular assets representing the 
 capital are of secondary importance. 
 
 It will be necessary to deal further with this matter 
 of depreciation when we come to speak of the question 
 of balance sheets. From what has been said it is clear 
 that the goods account involves a set of entirely new and 
 
 replace or repair machinery, or buildings, or whatnot, that are thought to 
 have suffered actual depreciation; (2) among both assets and liabilities — in 
 which case specific property is set aside from net income as a safety fund for 
 possible depreciation not thought to be actual; (3) among liabilities onlj^ — 
 in which case the amount is deducted from net income and shown on the books 
 as a safety fund for replacement purposes, but the actual property is left 
 among the general assets without specific designation. In the first case, the 
 fund could not be distributed to stockholders without impairing capital; in 
 the other two cases, the policy might be changed and the fund distributed." 
 
96 HENRY PARKER WILLIS 
 
 important problems as soon as the '^goods'' bought by the 
 concern are of a fixed character which may depreciate or 
 increase in value. 
 
 Causes of Deterioration. 
 
 It is worth while in this connection to consider just 
 what causes give rise to loss of value and may therefore 
 be studied by the business concern which desires to make 
 up its mind regarding the probability of depreciation as 
 a factor in its doings and to reach a decision as to the de- 
 gree of necessity for a distinct and specific provision 
 against loss. Neglect of them has sometimes thro\\Ti a 
 business into an embarrassed position because of failure 
 to provide for a contingency which was considered remote 
 and for which therefore no distinct provision was made. 
 The main causes of deterioration are as follows: (1) The 
 consumption of items of capital during a period of produc- 
 tion. An examiple of this sort is seen in the case of tools 
 which are worn out in manufacturing processes. (2) 
 The reduction of the value of privileges and rights. An 
 example of this sort is seen in the case of a patent which 
 runs for a definite period and whose value is therefore 
 reduced each year as the length of its life grows shorter. 
 A lease paid for in a lump sum at the beginning is another 
 illustration of the same kind. (3) ''Wear and tear.'' This 
 is simply the natural reduction in efficiency or durability 
 which objects of material character undergo as a result 
 of use. (4) General exhaustion of efficiency as seen in 
 the decreasing usefulness of an object in connection with 
 the service for which it was intended notwithstanding it 
 shows no perceptible wearing out. Certain electrical ap- 
 paratus illustrates this obsolescence. (5) Improve- 
 ments tending to reduce the value of given capital or ma- 
 chinery. This is seen in cases where a given sum has 
 been invested in a material object, say type for printing 
 w^hich is then rendered obsolete by the appearance of some 
 mechanical device that supersedes it, as, for instance, the 
 
THE PRINCIPLES OP ACCOUNTINa 97 
 
 typesetting maeliine, wMcli dispenses with the use of mov- 
 able types and substitutes type directly east in a mold 
 in the machine. (6) Reduction in labor or material costs 
 where contract has already been made for a given amount 
 of labor or material at a price which holds the concern 
 to the use of a more expensive method of production. It 
 should be noted, however, that business losses directly and 
 unmistakably due to mistaken policy or bad judgment can- 
 not properly be charged as ''depreciation." Depreciation 
 relates to assets as such, whether they be tangible or in- 
 tangible. Provision against business losses as such is prop- 
 erly called "contingent reserve" and is part of surplus. 
 But in whatever way deterioration may occur, it consti- 
 tutes a final source of business loss and in most cases 
 cannot be definitely counted on in advance. The object of 
 allowing for depreciation is thus not merely one of ac- 
 counting, but is also one of business policy. The business 
 firm which does not make any allowance for depreciation 
 is putting itself in a hazardous position from which it may 
 have great difficulty in emerging, owing to the sudden oc- 
 currence of depreciation which makes it necessary for it 
 to change the machinery already installed or to incur other 
 expense without having made any allowance in advance 
 for resources with which to carry out an expensive under- 
 taking of this description. In such a case the concern is 
 obliged either to borrow funds, thereby creating an addi- 
 tional capital liability, or else to recognize a reduction in 
 the nominal value of its capital, thereby recapitalizing on 
 a lower basis, or else to get the funds out of money that 
 would otherwise have gone for dividends, thereby suspend- 
 ing its dividends or reducing them. 
 
 Estimating Depreciation. 
 
 In the illustrative cases already given, it has been as- 
 sumed that depreciation could be more or less accurately 
 estimated. Thus we suppose that Smith & Brown had 
 no trouble in engaging an expert to go through their es- 
 
 B— VIII— 7 
 
98 HENRY PARKER WILLIS 
 
 tablisliment and inform them tolerably accurately how 
 much shrinkage there had been in the value of the assets. 
 It was supposed that the amount stated by the expert was 
 accepted without question and the accounting was based 
 on it. Neither of these things is strictly true in practice. 
 It is difficult to estimate the exact amount of depreciation 
 and there are serious mathematical and accounting prob- 
 lems connected with the actual recording of it. In esti- 
 mating depreciation several factors have to be considered. 
 These are as follows; (1) The original cost or estimated 
 value of the asset; (2) the estimated life of this asset; (3) 
 the amount expended on its maintenance; (4) the residual 
 value of the asset after a given period of time; (5) the 
 choice of a method of computing depreciation either as a 
 fixed percentage of the total original value of the asset 
 or as a percentage of its regular reduced annual value. 
 Some explanation of these factors may be desirable. It 
 is easy to see why the basic factor in computing depre- 
 ciation is the original or estimated value of the asset. This 
 original or estimated value shows how much has actually 
 gone into the asset from the firm's funds or capital. The 
 length of its estimated life gives the presumed term over 
 which the depreciation will continue. For instance, if 
 Smith & Brown found it necessary to rent an adjoining 
 building and took the building on a ten years' lease, pay- 
 ing the owner a lump sum of, say, $1,000 down, it is clear 
 that this right or title to the use of the building would be 
 one of their assets and a lease account would at once be 
 raised and debited with the amount. Now if $100 was 
 written off each year from the value of this lease in ten 
 years the w^orth of the asset would have been reduced to 
 zero and each jear this lease account would have shown 
 a balance of $100 less on the debit side while profit and 
 loss would have been debited with an equal amount, the 
 annual reduction in the value of the lease appearing each 
 and every year as a loss or expense to the business. It 
 is also plain that this would be a rather rough way of 
 
THE PRINCIPLES OF ACCOUNTINa 99 
 
 getting at the facts in the case inasmuch as the concern 
 would have had $1,000 tied up in the lease for the first 
 year, $900 for the second year, $800 for the third year, 
 and so on, so that the cost of carrying the building lease 
 would really have been $100, plus interest on the $1,000, 
 the first year, less than that the second year, and 
 still less the third year. It would have been pos- 
 sible to give an accurate statement of the actual 
 depreciation of the A^alue of the lease only by as- 
 certaining the exact sacrifice due to the loss of one year 
 of the life of the lease (which would have been constant 
 throughout) and the sacrifice during the first year due to 
 the tying up of $1,000. Then in the second year the loss 
 due to the expiry of a year would have been the same 
 while the sacrifice of capital involved would have been 
 smaller. All this would have involved a somewhat elab- 
 orate computation for the purpose of ascertaining the ex- 
 act amount of sacrifice due to the passage of time. 
 Another phase of this problem of estimating deprecia- 
 tion was indicated in the third consideration enumerated 
 above, where the amount expended on the maintenance of 
 the asset has to be considered. For instance, suppose that 
 a concern is estimating the depreciation on an auto- 
 mobile. The extent of this depreciation will depend con- 
 siderably upon the amount expended in maintenance. If 
 the owner is inexperienced and takes care of the machine 
 himself, depreciation may be very rapid, while if the care 
 of the machine is entrusted to an experienced engineer 
 who is authorized to replace parts calling for a change 
 as soon as they show unmistakable signs of unfitness, the 
 depreciation may be very slow indeed. A rough way of 
 getting at depreciation would be to ascertain the original 
 cost of the asset, fix upon a definite length of life during 
 which it will probably continue to be used, ascertain from 
 experience the annual cost of maintaining it in proper con- 
 dition, multiply this by the number of years of use, add 
 to the original cost of the machine, regard the total as 
 
100 HENRY PARKER WILLIS 
 
 the actual sacrifice involved in using the machine for the 
 given number of years, compute the actual annual out- 
 lay necessary to amount at the end of a number of years to 
 tills aggregate sacrifice, and have that amount set aside as a 
 depreciation fund for that particular asset or class of as- 
 sets. Of course this assumes that the asset is worthless 
 at the end of the period. This would be true of such in- 
 tangible assets as patent rights, franchise rights, leases, 
 etc., which expire in the course of time but it would not 
 be true of any material object because such objects would 
 almost invariably have what is called a ''residual value." 
 Thus in the case of the automobile the machine when en- 
 tirely worn out and worthless for further use as an auto- 
 mobile would have some value as scrap steel, old rubber, 
 etc., while parts of it might have a substantial value for 
 their original purpose. In such cases a more accurate esti- 
 mate of depreciation would be arrived at by deducting 
 the estimated residual value of the asset from the total 
 estimated sacrifice involved in getting the asset and main- 
 taining it throughout its natural life. It is observable, 
 however, that in all such cases an element of estimate 
 which grows larger and larger enters into the computation. 
 When the effort is made to allow for such elements of 
 depreciation as those which grow out of changes in prices 
 of stock or material on hand, or out of the fact that new 
 machinery may suddenly be rendered obsolete by reason 
 of subsequent inventions which make it possible to pro- 
 duce more cheaply, the process of estimating depreciation 
 is purely speculative, and depends entirely upon the ideas, 
 judgment, or perhaps fancy, of the person who is making 
 the estimate. The imprudent man will take his chance 
 that no such unexpected elements of depreciation due to 
 unforeseen contingencies will develop, while the more 
 cautious business man will set aside a fund designed to 
 meet just such incidents. The use of some depreciation 
 policy is, however, becoming more and more common and 
 is quite as much to be insisted on as is the use of insurance 
 
THE PRINCIPLES OF ACCOUNTINa 101 
 
 policies. In fact there is the same reason for the one as 
 there is for the other. In allowing for depreciation, the 
 danger to be guarded against is that of overdoing the mat- 
 ter and making allowances for something which in the 
 nature of the case cannot be allowed for or which is offset 
 by an element of appreciation that counteracts the loss 
 due to the wearing out of assets. It is possible by a too 
 cautious depreciation policy unnecessarily and unreason- 
 ably to reduce legitimate dividends and thereby to deprive 
 the stockholders of returns on their investments which 
 they ought to have and which if made would keep the cred- 
 it of the concern with its stockholders so good that it would 
 have no trouble in raising additional capital should that be 
 wanted in the future. 
 
 Example of Insurance Policy. 
 
 An example of the conservative application of a policy 
 of safeguarding capital against possible loss is seen in the 
 case of our national banking law which has been construct- 
 ed with the idea of protecting creditors and incidentally 
 stockholders of the banks organized under its terms, there- 
 by giving stability to the institutions. The national banking 
 law requires that a bank before declaring any dividends 
 shall set aside a surplus equal to 20 per cent of its capital. 
 After it has accumulated this amount, it is at liberty to be- 
 gin declaring dividends. That is to say, a bank with $100,- 
 000 capital earns during its first year (let us suppose) $10,- 
 000. Its books, in other words, show a profit of $10,000. 
 This is at once credited to a surplus account and the sum is 
 then used in the business — that is, is invested in stocks, 
 bonds, commercial paper, etc. This process is continued 
 until $20,000 is shown by the surplus account. After that 
 time the bank can declare dividends as much as it pleases 
 so that it does not infringe on its capital or surplus. Here 
 we have a case where the possibility of depreciation is 
 recognized and a fund called ''surplus" is set aside to meet 
 it. If bank losses occur during the first year equal to $4,000, 
 
102 HENRY PARKER WILLIS 
 
 there is only $6,000 left to be credited to surplus. Most 
 banks carry another open account called "undivided 
 profits" ^Yhich is credited with such additional values as 
 are retained in the business over and above the value of 
 the capital and surplus. The capital, surplus and undi- 
 vided profits accounts all normall}^ show credit balances, 
 and the surplus and undivided profits are theoretically in 
 exactly the same position as the capital account — they rep- 
 resent funds that have been put into the business and for 
 which it is liable to the stockholders. 
 
 Appreciation. 
 
 Some reference has been made to appreciation in con- 
 nection with the discussion of depreciation. The subject, 
 however, is not one that needs much comment because 
 appreciation is not a danger to be guarded against but is 
 merely an increase in the value of assets which may well 
 be recognized. Suppose that Smith & Bro^\Ti's build- 
 ing increased in value from $2,000 to $3,000, owing to a 
 natural rise in the worth of real estate. Smith & Brown 
 would simply be in a position to realize $1,000 more if 
 their business went into liquidation. If they had a regular 
 revaluation of assets it would appear, however, that the' 
 assets were now worth more than the capital. No cash 
 would have been taken in but the valuation at which the 
 assets stood on the books would have been advanced $1,000. 
 That is, in real estate account there would appear a debit 
 entry **Dec. 31, To increased value of building on revalua- 
 tion $1,000." This new debit item should give rise 
 
 to a new account which might be entitled ^'Reserve" or 
 '* Surplus" and in which there would be a credit entrv 
 somewhat as follows: ''Dec. 31, By real estate . . $1,000." 
 Here what is tantamount to a new section of capital ac- 
 count would have been created, the credit balance in it 
 representing an addition to capital assets in the form of 
 real estate and showing that the concern was liable to its 
 stockholders to an equal amount, just as in the case of 
 
THE PRINCIPLES OF ACCOUNTING 103 
 
 capital account. It should be noted, however, that the 
 dangers of overestimating inherent in such a method make 
 many regard it as a very questionable accounting policy. 
 Conservative accountants usually hold that appreciation 
 is best ascertained by actual sale and that otherwise, only 
 a ''paper" profit will result which is not available as divi- 
 dends. Of course, artificially ''writing up" a surplus re- 
 serve with such a "paper" profit does not show real con- 
 ditions. Appreciation can, however, often be recognized 
 correctly, as in the case of quoted securities. 
 
 VIII. MAOTJFACTUEING ACCOUNTS. 
 Special Problem of Manufacturing. 
 
 Thus far we have taken it for granted that the business 
 operations of a concern are of a single more or less uni- 
 form kind. In the case of the retail firm whose transac- 
 tions were set forth hypothetically, it was stated that they 
 were the buying and selling of goods. Later we recog- 
 nized the necessity in many businesses of investing capital 
 not only in goods but in fixed forms such as plant, ma- 
 chinery, tools, etc. Nothing, however, has been said of 
 those cases where a concern is engaged in two or more 
 distinctly different kinds of operations. The grouping of 
 goods account as between various departments — dry goods, 
 groceries and house-wares, was not a recognition of this 
 fact, because the business operations there were of the 
 same kind — purchase and sale — although they dealt with 
 different classes of goods. A concern may, however, have 
 more than one distinct kind of activity. It may engage 
 in manufacturing and may then sell the products of its 
 business. It may be a transportation company and at the 
 same time be engaged in producing articles for shipment, 
 such as coal. In fact there may be various combinations 
 of businesses or kinds of business that are being carried 
 on by the same concern or under substantially identical 
 
104 HENRY PARKER WILLIS 
 
 conditions. In such cases, there is the same reason for 
 segregating the operations and results of one side of the 
 business from those of another that is recognized in the 
 case of the departmental accounting systems of which we 
 have already spoken. The necessity for such segregation 
 is, however, greater in the latter case than in the former 
 because of the fact that the operations are different in 
 their character, involve different materials and methods, 
 and are carried on by individuals of different classes and 
 abilities. Not only for the purpose of showing which parts 
 of a concern's business are making profits and which ones 
 are incurring losses, but also for that of showing how ex- 
 tensive such relative profits and losses are, a segregation 
 of accounts is desirable. It is further desirable because 
 of the fact that a different system of accounts is needed 
 in the one case from what is called for in the other. To 
 get such a distinct segregation, implies, however, an or- 
 ganization of the business for that purpose. Such an or- 
 ganization may be worked out in any one of several dif- 
 ferent w^ays. In order to illustrate Avhat is meant at this 
 point we may assume the example of a concern which is 
 engaged in manufacturing and selling shoes. The account- 
 ing for the selling end of the business will naturally be 
 organized on an independent basis, just as the selling de- 
 partment is probably so organized. The same will be true 
 of the manufacturing end which is undoubtedly kept sep- 
 arate from the selling end in organization, and should be 
 treated in the same wa}^ from the standpoint of account- 
 ing. It may be said generally that there should be a sep- 
 arate organization and a separate accounting system for 
 each separate manufacturing department of the business 
 and that these separate accounting systems should fit into 
 one general system which is calculated to combine the 
 results of the whole and to show exactly how each is re- 
 lated to, w^hat it takes from, and what it furnishes to, the 
 general business. How this can be done, particularly with 
 
THE PRINCIPLES OF ACCOUNTING 105 
 
 reference to manufacturing, presents a more complex prob- 
 lem in accounting organization than any thus far dis- 
 cussed. 
 
 Organization of Accounts. 
 
 Starting with the general accounting system of the con- 
 cern, we may suppose that business is opened with a cash 
 capital all paid in and that at the outset it is determined 
 to recognize three distinct departments of the business — 
 A, B and C. The accounts pertaining to capital, cash, etc., 
 are opened in the usual way and of course the same would 
 be true of the plant and property accounts if no process 
 of segregation was attempted. Just here is the first 
 change which must be introduced into our outline of or- 
 ganization. In a former illustration (see p. 80 foregoing) 
 we assumed that Smith & Brown in purchasing a stock 
 of goods decided to put these goods into three classes, 
 groceries, dry goods and house-wares, and when cash was 
 expended after crediting the cash account, instead of 
 debiting a general goods account this general entry in 
 goods was broken up into three separate items — one for 
 house- wares, one for groceries, and one for dry goods, 
 which we supposed to be $2,000 each. It will be recalled 
 that we then reopened these three sections of goods ac- 
 count with a debit entry of $2,000 in each. It is clear that 
 if these departments had been sufficiently different from 
 one another — if, for example, one or two of them had dealt 
 with manufacturing and one had been a retailing process — 
 it might have been desirable to make a distinct segrega- 
 tion of this same kind at the outset. Thus, if the three 
 departments A, B, and C spoken of are conceived to be 
 three radically distinct branches of the business, a sep- 
 arate account might be opened with each and might bo 
 debited with the sum total set apart for that department 
 out of the capital of the concern which we assumed to be 
 paid up in cash. This is w^hat would be done if the capital 
 
106 HENRY PARKER WILLIS 
 
 set apart Avere to be the subject of bujdng and selling in 
 each department, it being consumed in the course of the 
 manufacturing operation just as goods which are bought 
 at a certain price and are sold or are consumed or dis- 
 pensed with, so far as the business itself is concerned, in 
 the commercial process. In manufacturing, however, a 
 large amount of fixed capital has to be employed. The 
 concern will undoubtedly, determine at the outset about 
 how this fixed capital ought to be distributed or appor- 
 tioned among the several departments. It will then per- 
 mit the investment of such capital in the machines, plant 
 and property pertaining to these different departments ac- 
 cording to this predetermined proportion. In so doing it 
 will disburse cash which will be simply credited to cash 
 account and debited to the various plant and property 
 accounts in the usual way. These plant and property ac- 
 counts may be carried in the general ledger just as before 
 (see p. 85 foregoing), in which case, so far as we have 
 gone, the accounting is thoroughly familiar. If the busi- 
 ness be broken up into three departments as already sup- 
 posed, there may be established a separate ledger for each 
 department in which will be opened the various plant and 
 property accounts represented by the fixed capital per- 
 taining to that department. This ledger is then simply a 
 section of the general ledger. The accounts are kept in 
 a separate book but that is merely for the sake of conven- 
 ience and they might just as well be in the general ledger. 
 If distributed by departments they would however group 
 together the accounts pertaining to departments A, B, and 
 C, so far as the investment of fixed capital was concerned. 
 
 Peculiarity of Manufacturing. 
 
 It is now possible to note the peculiarity of manufac- 
 turing accounts. A plant has been provided and every- 
 thing made ready for doing certain kinds of work. The 
 accounting will differ from ordinary accounting in that 
 
THE PRINCIPLES OF ACCOUNTING 107 
 
 what is now sought to trace is the process of manufactur- 
 ing and its eif ect on the general business. It is also sought, 
 where there is a departmental organization, to trace the 
 relation of each department to the others. Suppose the 
 process of production now begins. It gives rise to outlays 
 for such items as wages, light, fuel, power, etc., and it 
 also results in using up raw materials and in to some ex- 
 tent reducing the value of the fixed capital. What is now 
 to be attempted is to show how these changes in the assets 
 of the concern are represented. Evidently as, say, ma- 
 terial is used up, a credit must be given to material ac- 
 count. So also with such items as fuel and the like. These 
 accounts have been debited when the fuel, etc., was bought. 
 They are now credited as the same items are used up or 
 issued for consumption in the business, but how shall the 
 results of such a process be recorded? The next step in 
 the accounting is to establish the corresponding debit en- 
 tries. This is done by opening accounts corresponding to 
 each of those already existing. Thus, parallel with ma- 
 terial account, is opened a ** material issued" account. 
 Parallel with fuel account is opened a ''fuel issued" account. 
 Parallel with machinery account is opened a "deprecia- 
 tion" account. All these accounts are debited with the 
 same amount that had been credited in the accounts origi- 
 nally opened. They represent the plant, stores, material, 
 etc., that have been used up. In other words they are the 
 expense side of manufacturing. At the same time, as 
 wages are paid, the money will be debited to a wages ac- 
 count and any other expenses that are incurred will be deb- 
 ited to the proper expense account. We now have a set of 
 accounts the debit entries in which, as already stated, rep- 
 resent the expense side of manufacture. We can now open 
 a "manufacturing" account or "production" account. To 
 this will be transferred all of the debit entries represented 
 by the expense items which have been described. The 
 account will be credited with the amount of product turned 
 
108 HENRY PARKER WILLIS 
 
 out. At what price? Evidently if the operations of the 
 month resulted in 1,000 pairs of shoes and if we were to 
 ascertain from the credit side of the stores or materials, 
 wages, fuel, etc., etc., accounts, the total that had been 
 disbursed in every way during the month, we should know 
 substantially what it had cost us to turn out the 1,000 pairs 
 of shoes. This would be true of course only if there had 
 been no waste and nothing remained unaccounted for. 
 But, under these conditions, we might at the end of the 
 month enter the 1,000 pairs of shoes in the production 
 account at the actual outlay value as shown in the way 
 just indicated. Then if the department turned the shoes 
 over to Department B for packing and shipment it would 
 credit the production account with 1,000 pairs of shoes. 
 At what price ? It might credit the account with the shoes 
 at exactly the price shown by the debit entries, since no 
 profit is sought to be made. In that case production ac- 
 count would be closed without a balance. What would 
 be the relation between this*set of accounts and the gen- 
 eral fiscal accounting conducted in the general ledger? 
 The debit side of the manufacturing account was the total 
 which was distributed through the various investment and 
 expense accounts in the departmental ledger as a series 
 of credits showing outlays. The outcome of the concern's 
 operations in Department A, that is, the 1,000 pairs of 
 shoes which now appear on the credit side of production 
 account as having been disposed of by transfer to Depart- 
 ment B, represents what the department has given to the 
 general business or to some one of its branches. The 
 credit side of production account, which shows the goods 
 turned over, may be summarized and transferred to the 
 credit side of general profit and loss account in the gen- 
 eral ledger or to a special section of profit and loss designed 
 to show the results of operating Department A. On the 
 debit side will be placed a summarized statement of the ex- 
 penses. For the sake of purely theoretical illustra- 
 
THE PRINCIPLES OF ACCOUNTING 109 
 
 tion, assume that the machinery, tools, etc., employed by 
 Department A were of so simple a type that they were 
 wholly used up during the first month's operations and 
 that the same was true of raw material and every other 
 item. Evidently then the departmental books would show 
 on the debit side of each expense account the amounts 
 laid out for various things, and on the credit side the totals 
 of these things used up, estimated at their cost value. The 
 manufacturing' or production account would show on its 
 debit side the total cost value of the product, whatever 
 it was, which would be identical with the totals of the 
 debit or credit entries (indifferently) in all of the expense 
 or outlay accounts taken together. The credit side of 
 production account would show a total of exactly the same 
 amount representing the goods turned over to Department 
 B. If everything had been used up perfectly evenly in 
 the way indicated this total value would be identical 
 with the amount that had been laid out for the various 
 materials of manufacture, machinery, wages, etc. Depart- 
 ment A's account in the general ledger would thus show 
 the same on its debit as on its credit side while the account 
 of Department B in the general ledger would be debited 
 with the goods it had received from Department A at their 
 cost value. 
 
 Teclinical Profit or Loss. 
 
 But of course no operation in actual business would 
 work out evenly in this way. It is therefore neces- 
 sary to alter our assumptions somewhat in order to cor- 
 respond more closely with the actual facts of trade. The 
 first important modification to be made is seen in the fact 
 that it is not possible to close up a manufacturing opera- 
 tion evenly at the end of a fiscal period. Not only would 
 the machinery be still on hand but there would be balances 
 of raw materials, perhaps by-products, etc., to be disposed 
 of. In other words, it would not be possible on the ac- 
 
110 HENRY PARKER WILLIS 
 
 counting basis already indicated to ascertain the precise 
 cost of the goods turned out. That is to say, the produc- 
 tion account could not be debited or credited with the 
 amount of goods produced at their values. True the pro- 
 duction account could be debited with all actual outlays 
 during the month as fast as these w^ere credited to the 
 various accounts which provided for them and then the 
 total outlay could be taken as the value of the goods pro- 
 duced which would appear on the credit side when the 
 goods were transferred to some other department. Prob- 
 ably, however, the concern would prefer to assign a nom- 
 inal value ascertained by experience to the product. Sup- 
 pose that the actual cost value had been found by expe- 
 rience to run about $1 a pair for shoes. The credit entry 
 in the production account would then be $1,000, this being 
 a purely nominal figure determined on for the purpose of 
 making the entry. On the debit side of production account 
 would still appear the actual outlays made during the 
 month and on the credit side the assumed arbitrary value 
 of the shoes at $1 per pair. It is obvious that this produc- 
 tion account could be closed only by crediting the remain- 
 ing values of materials issued, fuel issued, etc. The ac- 
 count would show on its debit side the amount actually 
 used up during the period for materials and actually 
 laid out for expenses of various kinds, and on the credit 
 side the amount of materials on hand, the amount of pay- 
 ments made for future expenses, as, for example, where 
 machinery was rented for a term of months and paid for 
 in advance, etc. All these debit items would be debited 
 to production account because they would be received by, 
 or put into, the process of production while the credit 
 entries would show the goods turned over to other depart- 
 ments or retained on hand in a finished or incomplete or 
 unmanufactured condition, the finished goods being listed 
 at the arbitrary value which has been assigned to the com- 
 pleted goods per unit, while the materials are listed at 
 
THE PRINCIPLES OF ACCOUNTINa 111 
 
 the cost value. Under these circumstances, the produc- 
 tion account would show an excess on the credit side if the 
 value of the goods produced exceeded cost, while it would 
 show an excess on the debit side in case the reverse were 
 true. The process of manufacturing carried on in Depart- 
 ment A would thus show a technical profit or loss when 
 the entries were transferred to the profit and loss account 
 of Department A in the general ledger. The technical 
 profit or loss thus made .is thereby transferred to general 
 profit and loss. How about the accounting of Department 
 B which deals with the packing and shipping*? We saw 
 that when the thousand pairs of shoes are turned out they 
 are transferred at a value of say $1 per pair to Department 
 B. This of course means that the account of Department 
 B in the general ledger must be debited with 1,000 pairs 
 of shoes. A system of accounting may now be established 
 for Department B by itself. In a ledger set apart for the 
 purpose will be created first of all a stock account which 
 is debited with the value of the goods turned over by 
 Department A or $1,000. Other accounts will be raised 
 as money is paid out. Thus, for example, money may be 
 disbursed for wages and gives rise to a wages account 
 which is debited with the total spent for that purpose. 
 There may be charges for rent which will be debited to 
 rent account; for material, debited to material account, 
 and for various other things. Of course the sum totals 
 of these outlays must appear on the debit side of the de- 
 partmental production account conducted for Department 
 B, in the departmental ledger. As materials are issued, 
 material account is credited with the amount of material 
 issued for various purposes and so on. The production ac- 
 count will show the total amount spent on all of the various 
 expenses of production and on its credit side will show the 
 value of the goods as completed and turned over to Depart- 
 ment C. We started with the assumption that Department 
 B took over shoes valued at $1,000 from Department A. 
 
112 HENRY PARKER WILLIS 
 
 During the process of preparing for the market, packing, 
 etc., it may be supposed that 25 cents in cost has been added 
 to each pair of shoes. This means then that the department 
 has advanced the shoes in value by that amount and that 
 when it is ready to turn them over to Department C for sell- 
 ing it will turn over shoes worth $1,250, the added $250 be- 
 ing the increment of value that came to the shoes while they 
 were passing through Department B. As in the case of 
 Department A the debit entries in the production account 
 are identical with the credit entries which are made from 
 time to time in the various expense and plant accounts. 
 If the manufacturing process worked out evenly, wear- 
 ing out all the machinery, using up all the raw material, 
 etc., in the course of the fiscal period, the total credit en- 
 tries in all of these accounts would equal the total debits 
 made in them to start with, thus balancing, while the total 
 debit entries in production account would simply rep- 
 resent the sum that would have to be entered on the credit 
 side of production account when the goods were trans- 
 ferred to Department C for sale. The same remarks that 
 hold good of the accounting for Department A hold good 
 also of the accounting for Department B. If, as in our 
 latest assumption, the entered value of the goods on the 
 credit side of the production account is taken as an arbi- 
 trary value or *Hrade value," then the department may 
 show a technical profit or loss. That is, before the excess 
 value of the completed goods recorded at this trade value 
 is transferred to the credit side of the profit and loss ac- 
 count of Department B in the general ledger, the debit 
 side of Department B is fully written up and closed by 
 including therein all elements of outlay, while the credit 
 side is likewise fully written up by including finished prod- 
 uct, material, etc., still on hand but not transferred, so 
 that it may show a technical profit owing to the use of 
 an arbitrary or trade value for the use of the goods as 
 turned out. In that case of course the technical profit is 
 
THE PRINCIPLES OF ACCOUNTINa 113 
 
 transferred to general profit and loss account. The same 
 is done if a loss is shown. 
 
 Selling the Goods. 
 
 We are now ready for the selling of the goods. Depart- 
 ment C takes them over and they of course consti- 
 tute a debit in its departmental stock account in the 
 departmental ledger. In Department C's ledger the 
 stock account is opened as soon as the department 
 begins to take over goods from other departments. 
 Credit entries will be made in this account as the 
 goods in stock are drawn off for sale to the public. 
 Of course other accounts will be entered in this led- 
 ger. There will necessarily be a wages account and a rent 
 account, for the use of the premises used as sales rooms, 
 which is debited with the outlay for rent. Expenditures for 
 advertising will be debited to an advertising account which 
 will be written up from some record showing the space used 
 in various advertising media. An account corresponding to 
 the production account but which may be called sales ac- 
 count will be raised. The entries on the debit side of this 
 sales account will be all of the credit entries that have 
 been made in the various outlay accounts as rent, wages, 
 advertising, etc., etc. On the credit side will appear the 
 actual cash values of the goods as they are parted with. 
 We may now turn to the general ledger once more. On 
 the debit side of Department C's accounts have been 
 entered the actual total cash outlays as they have been 
 made in behalf of Department C. These outlays have of 
 course given rise to corresponding credits in general cash 
 account as the money was parted with. The credit side 
 of Department C's departmental account can be written up 
 from day to day, week to week, or month to month as is de- 
 sired. The credit entries are the goods which have been 
 supplied by Department C to the general public, that is to 
 say, which have been parted with by it. The account is 
 completed and balanced in exactly the same way as those of 
 
 B— VIII— 8 
 
114 HENRY PARKER WILLIS 
 
 Departments A and B. Here however is an additional 
 problem. The goods parted with by Department C are not 
 turned over to another department as was done by De- 
 partments A and B but are sold to the outside public which 
 paj^s for them in cash or gets them on credit. As fast 
 therefore as credit entries are made in Department C's 
 dejDartmental sales account in its departmental ledger, cor- 
 responding entries are made on the debit side of general 
 cash or bank account because cash has been received or 
 checks deposited as they have come in from the general 
 public in pajTuent for the goods. If the public has not 
 paid in cash or checks but has obtained the goods on 
 credit, personal accounts are opened. These belong to 
 the general ledger and not to the accounting system of 
 Department C. Department C deals only with the opera- 
 tion of selling. The general accounting system takes 
 charge of what is obtained from this operation of sell- 
 ing whether it be cash, bank credits or claims against indi- 
 viduals. It is clear that the departmental sales account 
 of Department C wdll, if the business has been success- 
 fully carried on, show a balance on the credit side which 
 is transferred to profit and loss as a profit. It has been 
 preceded there by the profits shown by Departments A 
 and B which were described as ''technical." They were 
 *' technical" simply because they were made at the expense 
 of the business itself. That is to say if Departments A 
 and B had turned their output over to C at exact cost as 
 measured by outlay the whole profit would have been made 
 by Department C and would have been equal to the dif- 
 ference between the final cost of the goods and the amount 
 finally realized for them. The profit made by Depart- 
 ment C is smaller, in proportion as technical profits have 
 been made by A and B, but inasmuch as these elements 
 of profit are aU united on the credit side of profit and 
 loss in the general ledger the result so far as the general 
 business is concerned is the same. The results of the ac- 
 
THE PRINCIPLES OF ACCOU'NTING 
 
 115 
 
 counting as shown in tlie manufacturing and trading ac- 
 counts and through them in profit and loss are illustrated^ 
 below. 
 
 Manufacturing Account. 
 DEPARTMENT A. 
 
 June 30 
 
 To cost of material 
 Stock Jan. 1. 
 Purchases to 
 June 1 
 
 To wages' 
 " rent, taxes, etc. 
 " depreciation 
 " sundries 
 
 June 30 
 
 By stock on hand 
 
 By value of product at 
 cost of manufacture 
 
 Manufacturing Account (Packing). 
 DEPARTMENT B. 
 
 June 30 
 
 To goods at cost of 
 manufacture, Dept. A 
 
 To wages 
 " rent, taxes, etc. 
 " depreciation 
 " sundries 
 
 June 30 By value of product at 
 cost of manufacture 
 
 Trading Account. 
 DEPARTMENT C. 
 
 June 30 
 
 To goods at cost of 
 manufacture, Dept. 
 " salaries 
 " commissions 
 " discounts 
 
 To profit and loss % 
 Gross profit 
 
 June 30 By sales 
 
116 
 
 HENRY PARKER WILLIS 
 
 PROFIT AND LOSS. 
 (General Ledger.) 
 
 June 30 
 
 To rent 
 " salaries 
 " office expenses 
 " allowance for 
 bad debts 
 " interest 
 " dividend 
 " reserve fund 
 " balance 
 
 June 30 
 
 By gross profit, 
 
 manf g account A* 
 " gross profit, 
 
 manf'g account B* 
 " gross profit 
 
 trading account C 
 " discounts, etc. 
 
 Contents of General Ledger. 
 
 What is left under these conditions for the general 
 ledger? We had the capital and cash accounts to start 
 with, bank account and the like. There will also be the 
 departmental profit and loss accounts which gather the 
 results of A, B and C. The relation of the several produc- 
 tion accounts or manufacturing accounts or sales or trad- 
 ing accounts found in the several departments and carried 
 by each in its special ledger (or if the bookkeeping is all 
 done in one ledger, then in the general ledger), is thus 
 obvious. These accounts are ultimately of the same kind 
 that were studied in connection with the trading account of 
 retail business. They are accounts showing gross results 
 of business operations, that is to say, they supply the in- 
 formation for the preparation of profit and loss account. 
 They have grouped on their respective debit sides the 
 current special expenses incurred in manufacturing and 
 on their respective credit sides the income from manufac- 
 turing, packing, selling, or whatnot, or they may merely 
 show the balances drawn from the several departmental 
 ledgers. They thus furnish when summarized the ma- 
 terials for a final profit and loss account or at least for 
 preliminary work toward such a profit and loss account. 
 As a result of the working out of these trading accounts 
 it would be possible to carry to profit and loss, statements 
 
 * In this case n'O entry because these were carried at cost of manu- 
 facture. 
 
THE PRINCIPLES OF ACCOUNTINa 117 
 
 showing the expenses of manufacture incurred in Depart- 
 ment A and the value of product turned out in Department 
 A, while the same is done for Department B and in the 
 case of Department C in our illustration the expenses 
 show on the debit side while the income from sales shows 
 on the credit side, such income having of course been 
 debited, as received, to general cash account. In the gen- 
 eral ledger, also, will be found the personal accounts of 
 those individuals who have had dealings with the firm by 
 taking its finished product. If instead of paying cash for 
 machinery, supplies, etc., for the several departments 
 these items were obtained on credit, there would be per- 
 sonal accounts with the individuals who supplied them. 
 Beside these there will be accounts with all those expenses 
 which are not capable of analysis and distribution to the 
 several departments. An example of such expenses might 
 be found in the case of the salary of the president of the 
 concern. If it were deemed possible to apportion this 
 salary in equal amounts to the different departments, it 
 might when paid be entered as a debit in due proportion 
 to the departmental accounts. This would of course give 
 rise to a corresponding entry either in the wages account 
 of the department (debit) or a debit entry in some ac- 
 count specially raised for the purpose, as, for example, 
 ''managerial expenses." It is much more likely that the 
 concern will prefer to retain this and other outlays that 
 are not easily apportioned, such as interest on bonds, etc., 
 in accounts in the general ledger which represent non- 
 apportionable outlays and which therefore go to make up 
 the debit side of general profit and loss. That is to say, 
 they act as deductions from the gross profits reported by 
 the three departments of the concern and when they have 
 been offset against these gross profits the result is the net 
 profit of the business which presumably is available for 
 dividends. Wliat has been gained by this scheme of analyz- 
 ing the accounts as has been done? Merely the arrange- 
 
lia HENRY PARKER WILLIS 
 
 ment of outlays by departments or processes so as to show 
 the position of the business at various stages in its de- 
 velopment. The system of accounting thus indicated 
 furnishes a cross section, so to speak, of the business at 
 any point that is desired. It shows how much is being 
 spent per month in a given department, how much product 
 is being turned out in that department, whether the de- 
 partment is doing its work within the limit of unit cost 
 set by the known general trade averages, etc. It makes 
 it possible, to a certain extent, to apportion the expenses 
 and profits of doing business and avoids the confusion 
 which would result if, for instance, a general fuel account 
 were kept for the fuel outlays of Departments A, B and 
 C, notwithstanding that the fuel outlay of A was for run- 
 ning machinery, while that of B and C was probably merely 
 for the sake of warmth. It has the advantage of group- 
 ing expenses of like kinds or those incurred for like pur- 
 poses and dissociating those incurred for unlike purposes. 
 
 Aids to the Accounting. 
 
 We have spoken thus far as if it were comparatively 
 simple and easy to keep track of the outlays and. as if they 
 could be directly recorded item by item in the appropriate 
 accounts in each department — A, B and C. Such is not 
 the case. It is probable that the outlays will be more 
 or less complex and it is entirely possible that they may 
 be made from time to time in comparatively small sums. 
 This may be particularly true of wages. Subordinate 
 books therefore must be installed in each department. 
 What will these be? Theoretically, we might employ a 
 day book and journal just as in the case of the general 
 accounting system but practically this will be undesirable. 
 In the case of Department A, for example, it will be un- 
 desirable for the reason that Department A does not make 
 any sales but simply transfers its product at a nominal 
 value to Department B. Its operations are not fiscal but 
 
Analysis of Purchases Boor 
 
 = 
 
 Name 
 
 Fo. 
 
 
 
 
 Spinning Department 
 
 Weaving XJepartment 
 
 Mill General Expenses 1 
 
 „,. 
 
 Amount 
 
 of 
 Invoice 
 
 Wool 
 
 Tops 
 
 Bands. f°»n. 
 etc 0;1»; 
 
 Sun- 
 dries 
 
 Dubbins 
 Skips 
 
 Card- 
 ciotlis 
 
 Cal-- 
 viagee 
 
 Warps 
 
 Wefts 
 
 Dye 
 Stuffs 
 
 .Sun- 
 dry 
 
 Mater- 
 ials 
 
 ShuUles, 
 
 Pickers, 
 
 etc. 
 
 Other 
 Pur- 
 chases 
 
 Car- 
 
 Motive 
 Power 
 
 racl<- 
 lUb' 
 
 «'a,er ^l'» 
 
 un<\ SunJty 
 
 Stores 
 
 «;c 
 
 Other 
 Pur- 
 chases 
 
 
 
 
 
 - 
 
 
 
 
 
 
 - 
 
 - 
 
 - 
 
 - 
 
 - 
 
 — 
 
 - 
 
 
 - 
 
 - 
 
 - 
 
 — 
 
 
 - 
 
 — 
 
 
 
 
 
 
 
 - 
 
 
 
 - 
 
 
 — 
 
 - 
 
 
 - 
 
 - 
 
 - 
 
 — 
 
 - 
 
 
 
 - 
 
 - 
 
 - 
 
 - 
 
 
 
 
 -- 
 
 - 
 
 -- 
 
 
 - 
 
 -- 
 
 - 
 
 - 
 
 — 
 
 
 - 
 
 - 
 
 - 
 
 - 
 
 Totals (or veai ... 
 Less (Vedits 
 
 
 
 
 - 
 
 
 — 
 
 
 
 CB 
 
 eadi 
 
 under respe 
 
 live 
 
 
 
 
 
 
 
 
 
 -The tolalB for the year are shown abo^e, the Journal m actual piaclicc is totalled nionthly, when the Accounts named at the top of the columns are debited vith their reapectn 
 A sopaiatu Book (or n poKiun of 6«me Fnok) is ruled eimiliuly for Allowances anu Keturns. 
 
THE PRINCIPLES OF ACCOUNTING 119 
 
 are analytical. It is probable that in most cases the de- 
 sirable f orm^ of subsidiary bookkeeping will be a kind of 
 combination of day book and journal. As this will have 
 to do with outlay or purchases chiefly, it is called by some 
 the "Purchases Analysis Book."* This is a book ruled 
 for the purpose of recording on successive days in tabular 
 form the date of an outlay, the name of the person to 
 whom the sum was paid, the department or branch of a 
 department in the interest of which it was incurred, and 
 the nature of the goods received in return, etc. This is 
 possible because the outlays are all to be of certain speci- 
 fied kinds and have been analyzed in a preliminary way 
 under those groupings. The purchases analysis book 
 simply records the outlays made for goods as they are 
 made. Then, by taking the different columns in which 
 the amounts have been written down, it is seen what en- 
 tries must be made either individually or as totals for the 
 day, week or month in the proper account. With refer- 
 ence to wages it would be possible to keep track of the 
 wage payments by merely adding a column in the pur- 
 chases analysis book. Inasmuch, however, as it is desired 
 to keep track in such cases of a great number of individual 
 names, it is probable that pay-rolls will be employed by 
 most concerns unless the number of employes is very small. 
 Such pay-rolls will be merely long sheets properly ruled 
 and written up each week with the name of the individual 
 to be paid and the amount of the payment. On receiving 
 his pay the individual may sign the pay-roll or otherwise 
 vouch for the receipt of his cash. The totals of the pay- 
 rolls may then be carried direct to the debit of wages ac- 
 count. In the purchase of raw materials or supplies it 
 may be expedient to carry a special purchases analysis 
 book if the supplies are of very detailed character. In 
 
 * A sample page of such a book with purchases classified for a woollen 
 factory is presented herewith. This example follows the grouping made by 
 Grierson. Advanced Bookkeeping, p. 108, from which the illustration is taken. 
 
THE PRINCIPLES OF ACCOUNTINa 119 
 
 are analytical. It is probable that in most cases the de- 
 sirable form of subsidiary bookkeeping will be a kind of 
 combination of day book and journal. As this will have 
 to do with outlay or purchases chiefly, it is called by some 
 the ''Purchases Analysis Book."* This is a book ruled 
 for the purpose of recording on successive days in tabular 
 form the date of an outlay, the name of the person to 
 whom the sum was paid, the department or branch of a 
 department in the interest of which it was incurred, and 
 the nature of the goods received in return, etc. This is 
 possible because the outlays are all to be of certain speci- 
 fied kinds and have been analyzed in a preliminary way 
 under those groupings. The purchases analysis book 
 simply records the outlays made for goods as they are 
 made. Then, by taking the different columns in which 
 the amounts have been written down, it is seen what en- 
 tries must be made either individually or as totals for the 
 day, week or month in the proper account. With refer- 
 ence to wages it would be possible to keep track of the 
 wage payments by merely adding a column in the pur- 
 chases analysis book. Inasmuch, however, as it is desired 
 to keep track in such cases of a great number of individual 
 names, it is probable that pay-rolls will be employed by 
 most concerns unless the number of employes is very small. 
 Such pay-rolls will be merely long sheets properly ruled 
 and written up each week with the name of the individual 
 to be paid and the amount of the payment. On receiving 
 his pay the individual may sign the pay-roll or otherwise 
 vouch for the receipt of his cash. The totals of the pay- 
 rolls may then be carried direct to the debit of wages ac- 
 count. In the purchase of raw materials or supplies it 
 may be expedient to carry a special purchases analysis 
 book if the supplies are of very detailed character. In 
 
 * A sample page of such a book with purchases classified for a woollen 
 factory is presented herewith. This example follows the grouping made by 
 Grierson. Advanced Bookkeeping, p. 108. from which the illustretion is taken. 
 
120 HENRY PARKER WILLIS 
 
 that case such a book is merely a section of the general 
 purchases analysis book. In our foregoing discussion, we 
 saw that the credit entries in stores account as well as in 
 all accounts involving materials will be entries showing 
 the amount of materials issued from the stock on hand 
 for the purpose of performing the productive process. In 
 order to keep track of these exactly, some system of vouch- 
 ers and orders will have to be devised (see pp. 127, ff.), and 
 when th^se vouchers or orders are honored, it will be de- 
 sirable to make a preliminary record of them somewhere 
 in order to provide exact data for writing up the credit 
 side of the raw material, or stores issued, account in the 
 ledger. This may be done by providing a ''stores issued" 
 book properly ruled with columns for the date, name and 
 kind of stores issued. This involves a ruling which will 
 provide a separate column for each of the principal kinds 
 of stores or materials and usually a miscellaneous column 
 for any additional unenumerated material. It is then pos- 
 sible to have as many different material accounts in the 
 ledger as are desired or to enter the amounts simply as 
 a total from time to time at their cost value. 
 
 Analysis of Business. 
 
 In what has been said up to this point reference has 
 been made from time to time to various hypothetical ac- 
 counts that are supposed to be used by a manufacturing 
 department. The effort in the foregoing discussion has 
 been to keep the analysis as simple as possible in order 
 not to confuse the mind of the reader with references to 
 a great number of different accounts the reason for whose 
 creation might not be fully understood. It is now neces- 
 sary, however, to speak in a general way of the actual 
 process of analysis by which these accounts are determined. 
 We have already said that it is extremely desirable to 
 have each manufacturing department treated as if it were 
 a separate business. This is true because of the desira- 
 
THE PRINCIPLES OP ACCOUNTING 121 
 
 bility of knowing the status of that branch of the business 
 from time to time and thereby of comparing it with other 
 branches or with the status which experience in other 
 businesses had shown to be desirable. But no such analysis 
 can be had in a satisfactory way, nor can the accounting 
 of the manufacturing department be successfully carried 
 out unless in the first place the business has been care- 
 fully organized with a view to such a conduct of the con- 
 cern as will permit of economical and effective operation. 
 One phase of such economical and effective operation is 
 seen in the economical and effective conduct of the ac- 
 counting system. Such organization must be of a kind 
 to make careful separation (a) of the different classes or 
 kinds of expense involved in the various processes; (b) of 
 the different classes or kinds of material that are pur- 
 chased; (c) of the different classes and kinds of labor out- 
 lay; (d) of the different classes and kinds of product turned 
 out in the department. The latter point requires a word 
 of explanation. It has already been said that the business 
 should be organized and the accounting carried on in such 
 a way as to keep the products separate and permit no con- 
 fusion to arise. A manufacturing department may, how- 
 ever, necessarily give rise to certain by-products whose 
 creation is inseparable from the manufacture of the prin- 
 cipal article which is turned out. This may necessitate 
 a rather complex accounting problem because it will be 
 difficult or impossible to apportion expenses, stores, wages, 
 etc., accurately between the different kinds of product. It 
 should, however, be sought invariably to carry the process 
 of apportionment as far as possible and to avoid grouping 
 together either products or outlays any more than is abso- 
 lutely unavoidable. How far the ianalysis of manufactur- 
 ing processes will go in any particular instance depends 
 in part upon the needs of the business, the question of 
 its volume, the elaborateness of its transactions and other 
 factors. Experience with the given kind of business indi- 
 
122 HENRY PARKER WILLIS 
 
 cates the general ideas which must govern in such analysis. 
 Thus in textile industries certain general lines that are 
 to be follo^Yed, certain general processes that are to be dis- 
 tinguished from one another, certain general results that 
 must be kept in mind, are indicated. The same is true 
 in the iron manufacture and in various other general and 
 broad branches of production. But it remains true that, 
 in every business where manufacturing is carried on, the 
 general outline of the accounting will have to be deter- 
 mined by means of a study of the business processes and 
 conditions which obtain in that particular plant. The ac- 
 counting will have to be modified from time to time be- 
 cause of the general changes in the volume or complexity 
 of the business or because of changes in its administrative 
 organization. For this reason it is not possible to lay down 
 in regard to manufacturing accounting definite or posi- 
 tive rules of the kind that can be laid down with a greater 
 degree of assurance in the case of the ordinary retail or 
 trading business. In the latter, the practice of account- 
 ing is much simpler and may remain very much the same 
 no matter what the magnitude of the operations of the 
 business may be and independent of the number of branch- 
 es of trade that it takes up. This is not true of the busi- 
 ness which takes up another distinct branch of commercial 
 operation as where a selling concern goes into manufac- 
 turing or vice versa. Still less is it true when the manu- 
 facturing passes beyond a comparatively elementary stage. 
 
 IX. COST ACCOUNTING. 
 
 Reason for Cost Accounting. 
 
 "We have seen that in businesses which deal with more 
 than one kind of transaction it is desirable to separate the 
 operations so far as possible, and if practicable to have the 
 accounting of each department of the business conducted 
 on as nearly independent a basis as is feasible. This we 
 
THE PRINCIPLES OF ACCOUNTINa 123 
 
 found was desirable in the case of the trading concern be- 
 cause of the desirability of keeping accounts for the dif- 
 ferent operations or classes of goods separate from one 
 another. In cases where the business sold goods and also 
 manufactured them, it was necessary to keep track of the 
 manufacturing, distinct from the selling, end of the busi- 
 ness, because of the fact that one or the other might not 
 be economically handled and might incur loss while the 
 other was making a profit, as well as for other reasons. 
 The idea of apportioning expenses to income or of keep- 
 ing track of each operation upon a tolerably independent 
 basis may be carried even further than has already been 
 indicated. Such a further working out of the idea of ap- 
 portionment of expenses to incomes relating to given busi- 
 ness operations is seen in what is called ' ' Cost Accounting. ' ' 
 Cost accounting, as the name denotes, is a system of ac- 
 counting which is intended to give a more distinct idea of 
 the actual cost of performing certain operations than could 
 be obtained from the general books of a concern no mat- 
 ter how carefully the latter might be kept. We have seen 
 that a business may be highly organized and may be di- 
 vided into a number of departments each of whose oper- 
 ations is practically controlled on a separate basis which 
 shows just what is going on in that department. We noted, 
 however, that even where there is this distinct and clear- 
 cut separation there is still no means of knowing the exact 
 cost of units of goods. This is lacking because (1) manu- 
 facturing is often a more or less continuous ojDeration which 
 results in turning out uniform lots of goods whose cost, 
 however, varies according to the cost of the materials and 
 labor that go into them, while (2) machinery and fixed 
 capital is not used up in a single operation or set of opera- 
 tions but goes on being used for a longer or shorter period 
 according to the life of the various forms of fixed capital. 
 It is further true that a great many manufacturing con- 
 cerns are turning out many di:fferent kinds of products 
 
124 HENRY PARKER WILLIS 
 
 or are producing groups of products on contracts. We 
 saw in our former discussion (see p. 109) that these fac- 
 tors complicate the situation to such an extent that it 
 may be considered practically impossible to hit upon an 
 exact cost value representing the items of labor and ma- 
 terial entering into a product and thus affording a means 
 of balancing the books exactly. In order to supply this 
 need we saw that the ordinary concern often resorts to the 
 use of an arbitrary figure called a trc.de value which may 
 represent the cost at which similar items of product could 
 be obtained on the market from other concerns or which 
 may be said to represent the estimated average cost or 
 value which the concern has found by its own experience 
 to be representative of the particular items turned out. 
 It is clear, however, that this trade value must be deter- 
 mined somewhere, either in the other plants spoken of 
 or else in the particular plant itself which is being studied. 
 It is the object of cost accounting to supply the process 
 or mechanism by which this trade value is ascertained and 
 by which the concern or concerns engaged in a given line 
 of business are enabled to judge whether their work is 
 being done as cheaply as the average in that particular 
 industry or not. 
 
 Object of Cost Accounting. 
 
 The object of cost accounting can now be stated in 
 more technical form. It is statistical as opposed to the 
 object of general accounting which is fiscal. This means 
 that whereas the general accounting system of a concern 
 undertakes to show outlays, incomes, profits and losses, 
 cost accounting undertakes simply to show the apportion- 
 ment of expenses and preferably the apportionment of 
 such expenses per unit of product turned out. Cost ac- 
 counting is not concerned with the question whether the 
 firm can or does make sales at a money price which will 
 equal or exceed the outlays necessitated for the produc- 
 
Form 
 
 No. 7— 
 Cost Sheet* 
 
 o 
 
 O 
 
 S 
 o 
 
 C/3 
 
 ^ 
 
 O 
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 X 
 
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 W 
 
 
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 bo 
 
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 bo 
 
 ^ 
 
 
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 S o 
 
 Ph 
 
 ^ 
 
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 ^ 
 
 pi 
 
 a 
 
 Pi 
 
 Q 
 
 Ph 
 
 Z 
 
 Qil 
 
 (X| 
 
 U 
 
 S 
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 c . 
 
THE PRINCIPLES OF ACCOUNTING 125 
 
 tion of a given class of products or unit of products. It 
 leaves that entirely to the managers of the concern as- 
 sisted by the general accounting system. It does seek to 
 show what items of expense have been incurred^ for what 
 objects, and in what proportion. Experience shows wheth- 
 er it was wise to incur such expenses or to divide them 
 in the way that was actually followed. From the cost- 
 accounting system then it is possible to infer or determine 
 what changes must be made in methods. 
 
 Simple Cost Accounting. 
 
 A very simple type of cost accounting would be sup- 
 plied if a concern were at the end of a fiscal period simply 
 to make out a "cost sheet." Such a cost sheet would be 
 nothing more than a ruled sheet with headings for the 
 various items of expense. It would be possible then by 
 representing horizontally the outlays on a given under- 
 taking or piece of work and totaling them at the end of 
 the line to see how much had been spent on that piece 
 of work, while by footing up the different columns it could 
 be ascertained how much had been spent in each partic- 
 ular class of outlay upon all pieces of work. A sample 
 cost sheet of this kind is shown herewith. The theory 
 of the sheet is now plain enough. Suppose for the 
 sake of simple illustration that the work is that of a tailor 
 who is ordered to make a suit of clothes for each of ten 
 different persons — A, B, C, D, etc. We may suppose that 
 the tailor's outlays are cloth, wages, linings and sundries, 
 and miscellaneous. Under the latter head we may class, 
 for the sake of simplicity, such items as rent, light, etc., 
 which are general in character and which we will assume 
 are equally apportioned by the tailor among the ten suits 
 of clothes — that is, if the ten suits are each worth the 
 same amount — and if his rent and light bill for the week 
 is, say, $10, this may be taken as roughly $1 per suit. The 
 tailor, wishing to see where he stands at the end of the 
 
126 HENRY PARKER WILLIS 
 
 week, enters A's suit as '' Contract No. 1" on the first line, 
 then enters under the head of cloth the value of the goods 
 put into the suit; under the head of wages the amount 
 paid for journeymen's work, and under the head of lin- 
 ings and sundries the cost incurred on that score. Under 
 the head of miscellaneous he writes down the estimated 
 share of general expenses borne by that particular suit. 
 He does the same for each of the other nine contracts or 
 suits of clothing. If the cost sheet is inclusive and takes 
 in all contracts or business done by the individual dur- 
 ing the week and all classes of outlay, it is evident that 
 the cost sheet ought to harmonize with his general ledger. 
 For example, the total entries under the wages column 
 ought to be the same as the outlays exhibited in labor 
 or wages account in the ledger. The total outlays for 
 miscellaneous (rent, light, etc.) ought to be the same as 
 the sum of the entries in the ledger accounts relating to 
 the items grouped under that head. The same is true of 
 other outlay accounts. Of course the tailor will carry in 
 his general ledger personal accounts with the different in- 
 dividuals, A, B, C, etc., who have ordered the suits, but 
 presumably the debit entry in each of these accounts will 
 be for a suit at the agreed-upon selling value mentioned 
 to the customer at the time he made the purchase, while 
 he will be credited with a check or cash for the amount 
 when he pays. If, however, the tailor desired, he might 
 debit the customer with the actual cost value of the suit 
 as worked out on the cost sheet and then add another 
 debit item showing the profit on that particular suit which 
 of course will be equal to the difference between the agreed- 
 upon supply price to the customer and the cost as ascer- 
 tained from the cost sheet. In this case the cost sheet 
 would have only an auxiliary relation to the general books. 
 It would be merely a statistical memorandum worked out 
 by the proprietor from the general books for his own in- 
 formation. It might turn out upon such an examination. 
 
THE PRINCIPLES OP ACCOUNTINa 127 
 
 that the cost of some of the suits of clothing furnished 
 was greater than the actual selling price but the general 
 books would not indicate on their face whether this was 
 true or not. The utihty of such a cost sheet is there- 
 fore obvious and it will be understood that the reason 
 for making it out and carefully comparing it with the re- 
 turns shown by the general books becomes more and more 
 pressing, the more complex are the kinds of work engaged 
 in. 
 
 Individual Cost Sheets. 
 
 Suppose the tailor or any other producer on thinking 
 the matter over does not like the idea of waiting until 
 the end of the week or month and then computing a cost 
 sheet to show the results of the several transactions re- 
 lating to a given contract or piece of work. He may men- 
 tally recognize the advisability of keeping this informa- 
 tion up to date as he goes along. Suppose then that he 
 provides himself with a set of blanks or blank forms in- 
 tended to go with each contract that is accepted. If A 
 enters the shop and orders a suit of clothes one of these 
 forms may be filled in at the top with the name *'A" in 
 a space provided for that purpose. (For sample see p. 12'5.) 
 Then as the suit passes on from worker to worker it is 
 accompanied by this blank, which is gradually filled in 
 with labor charges, goods used, sundries put into the suit, 
 etc., etc. After the suit has been completely manufac- 
 tured the proprietor may, if he chooses, add an entry rep- 
 resenting the assignment of general expenses which he 
 thinks ought to belong to every suit of clothes turned out. 
 He will then have on this tag, or voucher, or slip, a com- 
 plete statement of the history of the piece of work. Sup- 
 pose at the end of the week he has fifty such vouchers 
 or slips. It is merely a routine matter to tabulate these 
 returns on a general cost sheet of the kind already indi- 
 cated. Meanwhile, presumably, the tailor has kept up his 
 
128 HENRY PARKER WILLIS 
 
 general books. Under wages he has recorded all payments 
 for wages; under material he has debited all material paid 
 for, and credited all material issued, etc. On the slips or 
 blanks it is probable that his labor charges will have been 
 entered as number of hours of labor of a given kind spent 
 on each suit of clothes but by making a careful estimate 
 of the actual cost of labor per hour it is an easy matter 
 to harmonize the cost sheet with the showing made in the 
 general ledger account. If the slips are carefully made out 
 and if the assignment of general expenses is correctly 
 made, the tailor will have a fairly good idea of the ques- 
 tion whether or not he is making a profit on a given class 
 of work. He will be able to estimate whether he makes 
 a larger profit on his higher cost suits or whether his profit 
 is larger on the cheaper suits. He will thus be able to 
 form an opinion whether to put the stress on the one or 
 the other branch of his business. For his purposes this 
 may be a sufficiently satisfactory system of cost account- 
 ing although the cost records will not have entered in any 
 way into the general books unless the tailor has chosen 
 to record the actual cost of each suit as shown by its indi- 
 vidual cost sheet or slip on the debit side of the customer's 
 account, the difference between that and the credit side 
 (the amount ultimately paid in in cash) being the profit 
 (or loss). 
 
 Cost Accounts in the General Books. 
 
 Could not the tailor or other contractor have his cost 
 accounting a part of his general accounting system"? 
 From what has been said it is clear that there is no ab- 
 stract reason why he should not. For instance, when he 
 makes an agreement with A to supply A with a suit of 
 clothes, he may open A's account in his ledger and on the 
 debit side, as outlays are made, he might debit A with 
 the cost value of the items going into his suit of clothes. 
 When A paid his indebtedness at the agreed-upon rate, 
 
THE PRINCIPLES OF ACCOUNTING 129 
 
 credit would be given him and thus the account would 
 show just what had gone into A's suit and what had been 
 realized from it, the result being a profit (or loss) and as 
 such transferred to profit and loss account. Here the en- 
 tries would be carried as an integral part of the bookkeep- 
 ing. For instance, if three yards of cloth were used in 
 making the suit of clothes, this might be entered as a 
 credit in cloth or stock account and then entered as a 
 debit in A's account. When A paid for his clothes he would 
 be credited with the cash and cash account would be debit- 
 ed with the amount he paid in. Here there would be a 
 perfect double entry, and the books of course would bal- 
 ance if every item was thus accurately determined and 
 entered. Eoughly speaking the general ledger would con- 
 sist then of a series of accounts showing general cash out- 
 lays on expense items, as wages, rent, light, heat, ma- 
 terials, etc., and a collection of personal accounts show- 
 ing debit entries for the apportionment or assignment of 
 these expenses that went to the working out of the dif- 
 ferent contracts. Whenever money was originally spent 
 for, say, materials, it would be a credit in cash and a debit 
 in materials account. Whenever materials were dra^vn 
 from the stock on hand and worked up or whenever labor 
 was exerted, it would give rise to a debit in the account 
 relating to the particular contract on which it was expend- 
 ed, and a corresponding credit entry in the account re- 
 lating to the kind of material or labor which was drawn 
 upon. If 50 yards of a certain kind of cloth were cut up 
 on a certain day for a number of different suits of clothes, 
 material account would be credited with 50 yards of cloth 
 at the cost value thereof, while the various personal ac- 
 counts would be debited with the several quantities of 
 cloth that had gone into the making of the several suits 
 of clothing. The ^'cost accounting" would be seen in the 
 fact that there had been a segregation and assignment of 
 cost elements to every operation or transaction involving 
 
 B— VIII— 9 
 
130 HENRY PARKER WILLIS 
 
 the use of those elements for the production of a particu- 
 lar result. Here, it is plain, the cost-keeping system would 
 be a part of the general bookkeeping. This might be man- 
 aged by the same general system of tickets or slips ac- 
 companying the work in process that has already been 
 described, the accounts in the ledger being written up 
 from these slips as original records, or the slips might 
 be recorded in some book of original entry or filing system 
 prior to writing them up in the general ledger. This would 
 be a detail to be arranged as the particular business and 
 its needs might require. Would this be a desirable way 
 of handling the problem? **The ideal cost account," says 
 Mr. Lisle, "is one which is kept as a part of the double 
 entry bookkeeping. Under such a perfect system the man- 
 ufacturing or trading account is done away with, and its 
 place is taken by as many departmental or separate cost 
 accounts as there are departments or different articles 
 manufactured." Mr. Lisle 's statement is undoubtedly cor- 
 rect notwithstanding the fact that many concerns do not 
 attempt to keep their cost accoimts as a part of the gen- 
 eral books for reasons which we shall enlarge on presently. 
 It does not follow, however, that such an ideal cost ac- 
 counting will thus be kept directly in the general books 
 even though the cost accounting is carried on as *'a part 
 of" the double entry system. 
 
 Cost Books. 
 
 It is clear that as soon as work arrives at any great 
 degree of complexity the number of entries requiring to 
 be made in any given cost account is far too great to ad- 
 mit of their being kept in the way just indicated. More- 
 over as the degree of complexity of the work becomes 
 greater and as the elements of general expense which must 
 be estimated and apportioned become more and more diffi- 
 cult to determine with accuracy, it will be proportionately 
 harder to maintain a correct double entry system. The 
 
THE PRINCIPLES OF ACCOUNTINa 131 
 
 first step away from the system already indicated wiQ 
 undoubtedly be that of transferring the accounts of the 
 several contracts or pieces of work in progress into a so- 
 called ''contract ledger." This will be analogous to the 
 simple "sold ledger" which we spoke of at a much earlier 
 point in our discussion (see p. 31). The transfer is 
 here merely a matter of convenience, the personal accounts 
 being perhaps retained in the general ledger in a simple 
 form, the debit entry for A, for example, being *'To 1 suit 
 
 of clothes $40," and the credit entry ''By cash 
 
 $40," while the real details of what has gone into A's suit 
 are kept in a contract ledger, a "contract ledger account" 
 being ultimately established in the general ledger for the 
 purpose of showing actual profits or losses realized. Or 
 the contract ledger may be treated simply as a convenient 
 form of record, the debit entries only being set down in 
 the various accounts and being then transferred to the 
 debit side of the personal accounts in the general ledger. 
 In this case the situation is just the same as it Avas when 
 all of the accounting was recorded in the general ledger, 
 the only difference being that the details are for the sake 
 of convenience collected in a separate book. This method 
 has the advantage of rendering it possible to write up the 
 subordinate books from period to period, merely transfer- 
 ring the totals to the general ledger. Thus, for example, the 
 contract ledger could be posted only from such a set of 
 tickets or slips accompanying the different contracts as 
 has already been described or from these in conjunction 
 with a "stores issued" book in which would be recorded 
 the amounts of goods drawn from the stock on hand for 
 consumption or working up. So also either the pay-roll 
 or an abstract of wages paid could be used for the purpose 
 of posting wages. Then, say at the end of each week, the 
 total wages paid could be posted to wages account in the 
 general ledger, total stores issued could be posted to ma- 
 terials account or the various materials accounts in the 
 
132 HENRY PARKER WILLIS 
 
 general ledger, etc. The tickets or slips accompanying each 
 order or contract would furnish the data for posting to 
 the debit side of each contract in the contract ledger. It 
 is plain that if a debit entry were made in some contract 
 account for every item of goods or labor used and if all 
 items of goods or labor used were credited to the proper 
 accounts in the general ledger as totals, the gross debit 
 entries in the various contract accounts would equal the 
 gross credit entries in the various outlay or materials ac- 
 counts. The general ledger would thus be kept compact 
 with but few entries while the details of wages paid would 
 be obtained from the pay-rolls or an abstract of pay-rolls, 
 the details of materials used would be obtained from a 
 book kept for that purpose, etc. Suppose that some error 
 had been made in assigning elements of cost to the differ- 
 ent pieces of work — say, for instance, that the cloth for 
 A's suit of clothes is set down as 3 yards worth $12 on his 
 voucher or slip, whereas in the record of materials issued 
 it appears as $11. Here there is a discrepancy of $1. This 
 means that whereas a credit entry of $11 will be included 
 in the general credit entry for the week in materials ac- 
 count, a debit entry of $12 is placed on A's accoimt or 
 Contract No. 1 or whatever it is called. This will be equal- 
 ized when the books are balanced since when A pays his 
 bill this will give rise to a credit entry of $40, the originally 
 fixed price of the clothes, in his account, and a debit entry 
 of $40 in the cash account. A's account will be balanced by 
 transferring the profit on his contract, say $5, to profit and 
 loss. In balancing material account it will be necessary to 
 ascertain the value of the goods remaining on hand by an in- 
 ventory process, the balance, of course, being transferred 
 to profit and loss. The same thing will be true at other 
 points at which the estimate of cost on the several con- 
 tracts has not been strictly accurate. The variation, 
 whether in favor of or against the concern, will be trans- 
 ferred to profit and loss and will there simply make profit 
 
THE PRINCIPLES OP ACCOUNTINa 133 
 
 greater or less, or less or more than it would otherwise 
 have appeared. An approximation to accuracy will, how-^ 
 ever, have been attained, the cost system continuing as 
 a part of the general books. Somewhat the same end could) 
 be attained by carrying what is known as a cost adjust- 
 ment account. 
 
 If the purchasing system of the concern is elaborate, 
 a bought ledger precisely similar to the bought ledger of 
 the retail business (see p. 31 foregoing) will also be needed 
 and will be carried on parallel with the contract ledger, of 
 which it will be the obverse. This bought ledger will re- 
 lieve the general ledger of the accounts which are entered 
 in it. Both for it and for the contract ledger a system of 
 subordinate books will be needed. Thus subsidiary to the 
 bought ledger will be the bought ledger cash book, bills 
 payable book, etc.; and subsidiary to the contract ledger 
 will be the contract cash book and bills receivable book, as 
 well as others intended merely to classify transactions and 
 render the posting easier.* 
 
 Cost Ledger. 
 
 Another step toward putting the system of cost keep- 
 ing into a more perfect form may be taken by the es- 
 tablishment of what is called a "Cost Ledger." Such a 
 cost ledger for contracts of the kind that we have been 
 speaking of is illustrated on page 137. A cost ledger 
 is simply a continuous summary of outlays on the same 
 general principle as that which was adopted for the cost 
 sheet. Where the contract is elaborate and the number 
 of contracts is great it may be deemed best to set aside a 
 given page or pages for each contract. The ledger will 
 then be ruled so as to provide a number of columns on the 
 debit side for the purpose of recording the different ele- 
 ments of cost or outlay. Thus there may be columns show- 
 ing the number of days or hours of work spent on the con- 
 tract on a particular day, the wages paid therefor, the 
 
 ♦ Cf. D-icksee's Bookkeeping for Accountant Students, pp. 229 ff. 
 
134 HENRY PARKER WILLIS 
 
 materials used, plant destroyed, the assignment of gen- 
 eral expenses and any other items that may be desired. 
 It is customary to put on the credit side of the cost ledger 
 not only the stated contract price but also in a separately 
 ruled column such items of materials as are returned un- 
 used, items of tools or plant that are returned in an un- 
 used or partly unused condition, and so on. The sum total 
 of debit entries for wages, materials, plant, etc., can then 
 be footed up when the contract is completed and accepted, 
 the total of credit entries can be similarly entered and 
 the difference will represent the profit on that particular 
 contract. Here we have exactly the same principle that 
 was employed in our last hypothetical illustration — that of 
 the contract ledger, the difference being that in this case 
 provision is made for analytical treatment of the different 
 elements of cost. If there are 100 contracts in the cost 
 ledger, the total outlay for wages, materials, etc., on all 
 contracts, should equal the total amounts of expenditure 
 indicated on the corresponding outlay accounts in the gen- 
 eral ledger. Before closing the cost ledger there will be 
 drawn off or written up a summary of the cost ledger in 
 which will be exhibited the summarized results of the out- 
 lays on each contract as well as the summarized results 
 of all credit entries (contract price, materials returned, 
 etc.), while there will be inserted columns showing profit 
 and loss on the various contracts which, when summarized 
 and offset against one another, will show net profit or net 
 loss for the period under consideration. The double entry 
 system of the cost ledger would not be complete by itself 
 if it included only what has been set down. By opening 
 a contracts account and posting totals to it a check is ob- 
 tained which may be availed of for the purpose of locat- 
 ing any error. The cost ledger has been closed when the 
 total footings of all accounts therein have been made and 
 found to agree. If the results of each separate contract 
 as exhibited in the cost ledger are transferred to the per- 
 
THE PRINCIPLES OF ACCOUNTING 135 
 
 sonal account relating thereto in the general ledger, there 
 is no need of maintaining a contract ledger although this 
 may be done if desired. The relation of the cost ledger 
 to the other ledgers or to the general ledger is no different 
 from that of any ledger, if the accounting be carried on 
 as above indicated. The contract ledger (which is analo- 
 gous to the sold ledger of a trading concern) may carry 
 on the debit side of each account the contract price at 
 which the work was undertaken and carried out, while 
 on the credit side will be recorded payments made from 
 time to time until the agreed sum is liquidated. Thus sup- 
 pose an account to be opened with '^ Contract No. 1 — John 
 Smith & Co.," the entries are as indicated. Meanv/hile 
 in the cost ledger a similar account is opened where the 
 actual outlays on Contract No. 1 are recorded as they are 
 made from general cash, being debited there as fast as 
 they are paid and credited to cash. When the account 
 of Contract No. 1 is closed in the cost ledger it shows 
 either a profit or a loss. Transferring this to a contracts 
 account which supplies a means for recording the final data 
 obtained from the accounting, there will appear a series 
 of debit items showing losses, if any, on various contracts 
 performed and a series of credit items showing profits, 
 if any, on the various contracts. This is practically a trad- 
 ing account which will furnish the material for writing up 
 the profit and loss account in the general ledger. The ac- 
 counting shows what has been gained or lost on each con- 
 tract, the assumption being of course that the cash can be 
 collected to the full contract amount on each. When a con- 
 tract is paid for, the general cash account, of course, is deb- 
 ited, while the account with that particular contract or the 
 person in whose behalf it has been undertaken is credited. 
 The cost ledger does not enter into this transaction at all. 
 It has done its work in segregating the debit entries which 
 were necessitated by the payment of cash from time to time 
 and in comparing them with the amount of cash which it is 
 
136 HENRY PARKER WILLIS 
 
 expected to receive. Of course all the subsidiary books 
 already referred to will necessarily be carried on and their 
 number will depend upon the character of the business. 
 Such subsidiary books will include the stores or material- 
 issued book, the stores or material-returned book, the plant- 
 issued and plant-returned books, the stores-purchased 
 book, and others as needed. Where the business is simple it 
 is possible to carry on the accounting for the stores issued, 
 purchased and returned in the same book by having ap- 
 propriate rulings. A sample sheet of the cost ledger is 
 shown on p. 137. On p. 138 is given a sample sheet of a 
 material record. 
 
 Analysis of Costs. 
 
 Enough has now been said by way of illustration to 
 show how the cost books of a concern are designed and 
 the purpose for which they are carried on. It is next nec- 
 essary to inquire whether all cost analyses can be made 
 upon the principle just indicated and, if not, what prin- 
 ciples of analysis of cost must be employed in order to 
 render possible a cost-keeping sj^stem which will attain 
 substantially the same end. Just here it is well to note 
 that the illustration assumed for purposes of discussion 
 is the simplest that could have been given. It will be 
 noted that we base our analysis on the assumption that 
 what the manufacturer or producer sought to do was to 
 keep his account of costs with a series of individual con- 
 tracts each of which was supposed to be separately ac- 
 complished, and to give rise to a series of items that are 
 immediately turned over to a purchaser who has contract- 
 ed for them at a definite price. This is truly enough rep- 
 resentative of certain classes of business such as is seen 
 in the case of engineering works, the construction of ma- 
 chinery of various kinds on order, the performance of 
 simple production (as in the case of clothing manufacture 
 in the illustrations already given) and in many others. 
 
THE PEINCIPLES OP ACCOUNTINa 
 
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138 
 
 HENRY PARKER WILLIS 
 
 MATERIAL ISSUED. 
 
 June, 1910. 
 
 Contract 
 N o. 1. 
 No. 
 
 Contract 
 No. 2. 
 
 Contract 
 No. 3. 
 
 Contract 
 No. 4. 
 
 No. t 
 
 Contract 
 No. 6. 
 
 No. t 
 
 Contract 
 No. 6. 
 
 No. t 
 
 Contract Contract 
 
 No. 7. No. 8; 
 
 No. t No. 4 
 
 Note. — In the columns headed "No." will be recorded the number of the 
 requisition for supplies or material, such requisitions being filed separately 
 and constituting a record of all issues. In the columus headed "$" are recorded 
 the cost value of the material issued. The book might be ruled with selected 
 headings at the top of columns showing standard classes of supplies issued, as 
 lumber, nails, etc. The requisitions could be made to show the contracts for 
 which the issue took place. 
 
 It is not the case, however, with those businesses where 
 the processes are continuous and where the product is 
 turned out not on the basis of an established contract 
 price, but upon that of future sale at such price as the 
 market may warrant. For example, take the case of a 
 factory producing plain cotton goods for the purpose of 
 building up its warehouse stock in order to meet orders 
 which it knows will be received during the coming season, 
 or the case of a shoe factory which devotes itself to pro- 
 ducing a full line of sizes of various grades of footwear, 
 knowing that there will be a demand for footwear and 
 expecting to supply this demand by selling the output in 
 its retail stores which it may have established here and 
 there. Such enterprises cannot organize their cost sys- 
 tems in the way already indicated. They cannot do so 
 for the reason that the basis of accounting previously 
 adopted is absent. Although it is very desirable to estab- 
 lish a unit cost for the cloth per yard, it is not possible to 
 keep account with every yard of cloth produced. The same 
 is true of the shoes. It may not even be possible, as in 
 the cases already cited, to keep account with every par- 
 
THE PRINCIPLES OP ACCOUNTING 139 
 
 ticular batch of output. Here the difficulty lies in the fact 
 that a new basis for the cost accounting must be sought. 
 The basis desired is that of unit cost in the last analysis, 
 but this can be secured only by keeping account with pro- 
 cesses. Thus is presented perhaps the most difficult prob- 
 lem of cost accounting — that of accurately getting at the 
 costs involved in the various processes through which 
 goods pass in their progress toward completion. 
 
 Bases of Cost Accounting. 
 
 We have now laid the foundation for an understand- 
 ing of the different bases upon which cost accounting may 
 be carried on. The first was that of individual contracts 
 or pieces of work, the second that of processes. The lat- 
 ter, however, may be still further subdivided. In a ma- 
 chine type of industry it may be resolved to keep track 
 of the cost by machines or it may be determined that the 
 best system is that which will take account of the whole 
 process in which these machines are used. If, for example, 
 there are three classes of machines through which a given 
 product has to pass on its way to completion, account may 
 be kept with each of these machines. Thus, say, logs are 
 taken into a planing mill and are run through saws which 
 convert them into boards. Then they are run through 
 jolaners for the purpose of smoothing, then they may be 
 tongued and grooved in order to provide means for fitting 
 them together when they are laid. Supposing that in this 
 mill the saws, planers, and the machines for tonguing 
 and grooving are grouped together in different parts of 
 the plant, it would be possible to keep track of the amount 
 of work done by each machine — that is, the number of 
 hours it was run, the estimated expense of running it, the 
 estimated depreciation, etc. If all the work were done 
 by the use of machines and if every machine were thus 
 kept track of, a basis for the cost accounting would be 
 established. Or, it might be decided to base the account- 
 
140 HENRY PARKER WILLIS 
 
 ing upon processes. In this case, every time a piece of 
 material was put through a given process, opportunity 
 would be offered for entries in the account relating to 
 that process. To sum up what has been said, we may 
 enumerate the different methods of keeping costs in their 
 principal forms as follows:* (1) The cost system in which 
 the records are kept according to order number; (2) the 
 cost system in which the records are kept according to 
 departments; (3) the cost system in which the records 
 are kept according to the operations or processes; (4) the 
 cost system in which the records are kept according to 
 machines. The explanations already given indicate the 
 method of the accounting according to the basis which 
 may have been adopted. In the case of the order num- 
 ber system the cost sheet is prepared so as to analyze ex- 
 penditures on the given order; in the department system 
 the cost sheet represents the results for the department; 
 in the operation or process system the sheet is kept for 
 the operation or process and the results show expendi- 
 tures and incomes resulting from that process; in the ma- 
 chine system the cost sheet represents results for given 
 machines or sets of machines. In every case the ultimate 
 object is that of ascertaining cost per unit. The accounts 
 in the cost ledger follow these cost sheets and the cost led- 
 ger, if one is kept, is related to the other books in the way 
 that has already been described. Essentially, then, the 
 problem in cost accounting as applied to modern business is 
 twofold: (1) That of ascertaining the best plan for analyz- 
 ing costs in the given business and of organizing the busi- 
 ness to correspond; and (2) that of assigning a given rate of 
 expense or cost to various operations or processes in those 
 cases where the exact ascertainment of the cost involved is 
 not practicable. It is to be noted that the accounting scheme 
 is the same in all of these plans, the difference residing 
 
 * The classification here given is found in C. M. Day's Accounting Prac- 
 tice, pp. 91-2, 
 
THE PRINCIPLES OF ACCOUNTINa 141 
 
 solely in a difference of organization. The basis of the 
 accounting scheme lies in the fact that cash is paid out 
 from cash account for the various elements of cost which 
 may be reckoned as raw material, labor and expense and 
 that these different items and the accounts correspond- 
 ing to them are drawn upon for the means of carrying on 
 the operation or performing the unit of work or contract 
 which has been accepted as the basis of the cost account- 
 ing, while this operation, process, or other basis of ar- 
 rangement is conceived as furnishing completed goods 
 either to some other operation, process or the like or to 
 the selling end of the business, thus in the last analysis 
 bringing in cash from the outside world w^hich goes to 
 cash account. From this it is plain that as cash is paid 
 out it is credited to cash account, while corresponding 
 debits go to material, labor, and expense or are subdivided 
 among the various accounts belonging to the groups thus 
 indicated. In the cost sheets or accounts the material, 
 labor and expense paid out are debited to the various con- 
 tracts, processes, machines, or units of product which have 
 been accepted as the basis for the accounting. The comple- 
 tion of processes, contracts, etc., results in crediting the cost 
 sheets or accounts with the value of the work turned out 
 w^hich may then be debited to a production account, and 
 when the goods are sold or transferred, production account 
 receives corresponding credit, while the amount of cash 
 realized is debited to cash account. 
 
 Selecting a Cost System. 
 
 From what has been said it will be appreciated that 
 in selecting a cost system the matter of fundamental im- 
 portance is to get a system that is well adapted to the busi- 
 ness in question and that permits of substantial accuracy. 
 Unless a cost system is reasonably accurate it is not only 
 useless but even may be injurious or detrimental to the 
 welfare of the business. We have seen that where actual 
 
142 HENRY PARKER WILLIS 
 
 expenses can be apportioned there is a very great utility 
 in the adoption of some system that will permit such ap- 
 portionment. For example, in the case of given orders or 
 contracts, it is entirely possible to segregate the outlays 
 as indicated. As soon as percentages of general expense 
 and the like must be computed, the cost system begins 
 to drift away from absolute accuracy. It is in many cases 
 possible to adopt a trade value for the unfinished product 
 of Q^iven departments and operations but this trade value 
 merely represents what the concern would have to pay 
 to get the work done elsewhere and may correspond only 
 in a very rough general way to the actual cost in the plant 
 itself. Probably in a concern where the process of pro- 
 duction is carried on upon a large scale and where the trade 
 value of goods is not a satisfactory guide, even approxi- 
 mately, to an estimate of actual costs, the best results 
 can be obtained by frequently re-establishing the estimated 
 unit cost of the work, drawing this unit cost from the 
 records of expense outlays that are indicated by the cost 
 sheets exhibiting actual results in the plant. An illustra- 
 tion of how this system may be applied in a very large 
 concern which, however, works upon the basis of separate 
 orders, may be seen in the system adopted for the govern- 
 ment printing office as set forth on pages 327, ff. of Part II 
 of the present volume. Under such conditions as this, the 
 cost system becomes essentially statistical in its character 
 and there may be ground for doubt whether it is worth 
 while to endeavor to apply the cost system as a part of 
 the general bookkeeping or accounting at least in more 
 than a very broad way. It is undoubtedly the case that, 
 particularly where the business is very complex, as in the 
 case of railroads for example, much of the most valuable 
 cost data will be obtained only by statistical analysis 
 based upon the accounting data that are supplied by the 
 general accounts themselves. A great deal of the most 
 valuable information about business, particularly about 
 
THE PRINCIPLES OF ACCOUNTING 143 
 
 forms of business which employ large fixed capital, cannot 
 always be put into pecuniary form. That is to say, the 
 results of a given operation cannot be stated in terms of 
 money. We have already noted this difficulty in those 
 cases where a purely fictitious or trade value is placed 
 upon the uncompleted results of given operations. In the 
 case of such an enterprise as a railroad, for example, con- 
 clusions as to the business of the road may often be ob- 
 tained in best form from statistical analyses showing the 
 number of units of a certain kind of business performed 
 in a given unit of time. Thus the records of the road may 
 show the amount expended for hauling freight of various 
 kinds, the distance traveled, etc., and the amount realized 
 from each consignment of freight. It is not possible to di- 
 vide such items of expense as the interest on bonds or the 
 overhead charges, such as salaries of officials, etc., between 
 freight and passenger traffic or between the iron ore hauled 
 and the dry goods. An attempt to assign costs in that way 
 would be absurd. A great deal, however, can be learned 
 from statistics showing the number of miles traveled by 
 freight which can be reduced to so-called ton-miles, the 
 unit here being the task of hauling a ton of freight one mile, 
 or from a study of passenger statistics showing the number 
 of passengers transported a given number of miles which of 
 course can be reduced to passenger-miles, the unit here 
 being the work of carrying a passenger one mile. By the 
 establishment of such units of work and by comparing the 
 number of such units performed in the course of, say, a 
 year, it is practicable to draw conclusions as to the density 
 of traffic on the road as compared with general density of 
 traffic and to ascertain by comparison with expenses ar- 
 ranged in large groups, the comparative cost of passenger 
 or freight traffic, leaving the non-distributable charges out 
 of account. The aim of these railway statistics is thus not 
 to determine costs so as to gauge the margin of profit as 
 is usually the case in business cost accounts. In the highest 
 
144 HENEY PARKER WILLIS 
 
 sense of the term, statistical analyses of business opera- 
 tions, designed to show unit costs or density of business 
 per unit of plant employed or capital invested, are ** ac- 
 counting." They may not be based upon a formal book- 
 keeping foundation or be made to fit into any scheme of 
 corresponding double entries, but the accounting idea is 
 present. This is the idea of analysis of business and ap- 
 portionment of results or incomes to efforts or outlays. 
 
 Accounting Controversies. 
 
 Sharp controversy has raged for a good while about 
 analyses of cost, different elements of cost, etc. Of course 
 the elements of cost are the same when considered in the 
 abstract — labor, material and expense, including in the lat- 
 ter the cost of using capital, the cost of obtaining services 
 of various kinds, etc. But these items are combined in dif- 
 ferent ways and vary materially from plant to plant. The 
 raw material of one business is the finished product of 
 another and there may be room for substantial doubt re- 
 garding the assignment of a given factor in production at 
 any given time. Cost accounting is still undergoing rapid 
 development and in practical application it is likely to 
 change very rapidly and very materially within the next 
 few years. The changes will be in the direction of better 
 analysis of costs, better organization of business, more 
 minute apportionment of outlays and the like, but the fund- 
 amental principles at the bottom of all cost accounting will 
 remain the same. 
 
 X. PROFIT AND LOSS ACCOUNTS. 
 
 Relation of Profit and Loss to Business. 
 
 We have already had something to say with reference 
 to the profit and loss account of the ordinary retail busi- 
 ness. We there showed that the determination of profits or 
 losses arising from a given industrial operation or business 
 
THE PRINCIPLES OP ACCOUNTING 145 
 
 transaction was the important end toward whicli the ac- 
 counting of the business was directed. Subsequently we 
 also saw that the profit and loss account furnishes the 
 information necessary for use in completing capital ac- 
 count and for showing whether capital has been increased 
 or impaired. Wliile in ordinary business the technique of 
 profit and loss accounting is comparatively simple, increas- 
 ing complexity in business operations raises two points of 
 very serious difficulty and importance: (1) How to allo- 
 cate, so far as possible, profits and losses ; or, what is much 
 the same thing, how to divide the profit and loss account so 
 as to show the distribution of profits in the gross, and (2) 
 how to represent in a correct way a given outlay as provid- 
 ing a permanent addition to the business, or as constituting 
 an actual expense which is a loss since it does not provide 
 any element of future strength for the business but merely 
 liquidates a liability which has already accrued. The gen- 
 eral question of profit and loss account may now be re- 
 viewed at some length analytically and in the light of the 
 studies already made of other accounts. 
 
 General Profit and Loss Account. 
 
 In dealing with the question at the outset, we saw that 
 general profit and loss account in a retail business consists 
 on the debit side of a series of entries of expense 
 or outlay and on the credit side of a series of entries 
 representing incomes, the chief entry there being the 
 gross profit realized on goods. Later on we saw that 
 for the purpose of getting a general idea of condi- 
 tions in some one branch of a given business, as, for 
 example, in a given class of goods in a retail business, 
 it may be deemed wise to enter some elements of ex- 
 pense along with goods as a means of assigning those par- 
 ticular expenses to that particular department, thus estab- 
 lishing what was called a "trading account." In the latter 
 case, it was seen, there is left for entry as debits in the 
 
 B— VIII— 10 
 
146 HENRY PARKER WILLIS 
 
 profit and loss account properly so-called, only the general 
 expenses of the business which are not capable of allocation 
 or which it is not deemed wise to try to distribute. In both 
 of these cases, an extremely simple form of profit and loss 
 account is presented. In the first we have as debits such 
 simple items as elements of expense of a representative 
 kind like rent, fuel, light, discounts, etc., while our credits 
 were simply the obvious gain on goods sold. In the latter 
 case (where a trading account was employed) we simjjly 
 had a few of the special expenses assigned to the depart- 
 ments where they were incurred, and then in the profit and 
 loss account in general we retained on the debit side the 
 general representative expenses, and the gross profits on 
 the credit side. 
 
 Sections of Profit and Loss. 
 
 Clearly such a profit and loss account is unsatisfactory 
 for two reasons: (1) It fails (even where some trading 
 accounts are kept) to distribute profits and losses among 
 the different branches of business, and (2) it fails to show 
 what use has been made of profits. This may be a very 
 serious defect in a business of any degree of complexity. 
 The difficulties objected to can be overcome by segregating 
 profit and loss into several sections. What shall these 
 sections be? It was suggested at an earlier point, that the 
 sectional division adopted might be one based simply upon 
 the establishment of an account for each of the elements 
 of expense entering into profit and loss. Thus for example 
 we might open accounts with "Rent," ''Wages," "Fuel," 
 "Discount," etc., finally closing them all into profit and 
 loss which is thus a summary. If the business conducts a 
 number of different departments, each with a trading ac- 
 count of its own, these will be closed into profit and loss in 
 the same way, the gross profits appearing on the credit 
 side, in which case profit and loss is simply a summary 
 statement of the "sections" or trading accounts which are 
 
THE PRINCIPLES OF ACCOUNTING 147 
 
 constituted of the different expense items (debits) and the 
 different income items (credits), and which show gross pro- 
 fits. This, however, is not a complete way of dealing \vith 
 the situation. The summarized profit and loss account 
 which has been thus described may be itself divided into 
 sub-sections. For a retail business the first section which 
 it is desirable to recognize is that of trading operations. In 
 this case total sales would be credited after deducting trade 
 discounts and returns, such credit either representing the 
 total sales in all departments or, if desired, the sales classi- 
 fied by departments. The debit side of such a first section 
 would as usual show the cost of the goods disposed of, 
 amounts paid for freights, discounts allowed, etc., as well 
 as all outlays directly growing out of the selling process. 
 By keeping in this first section of profit and loss the gross 
 results of the departmental business on the one side and 
 the gross actual trade expenses connected with the actual 
 selling process of those departments on the other, the first 
 section of profit and loss account is made to show the total 
 gross profits realized in all departments. This may now be 
 totaled and the balance of gross profit may be carried 
 down on the credit side. The second section of profit and 
 loss now may be developed. It is immediately opened 
 with a credit entry representing gross profit as ascer- 
 tained from the first section. Other items of income may 
 now be credited representing such sources of revenue as 
 did not grow directly out of selling operations. For ex- 
 ample, if the concern has leased a certain part of its prem- 
 ises to others there will be income in the shape of rent for 
 this lease. Thi*s will now be credited along with any other 
 revenue items that are derived from a non-trading source. 
 The debit entries in this section will be those which do not 
 grow out of actual selling operations. Examples would be 
 fixed rent paid, general salaries and the like, as well as 
 business losses, bad debts, etc. By balancing this part 
 of profit and loss, we shall obtain a result which will show 
 
148 HENRY PARKER WILLIS 
 
 the actual business profit free of all ordinary costs or out- 
 lays involved in tlie general management of the business. 
 There may, however, be other deductions to be made be- 
 fore we are able to recognize the profit apparently shown 
 by the business as a true net profit. A third section of the 
 account may, therefore, be opened and to this the term "net 
 profit account" may be assigned. This is opened with a 
 credit entry representing the ordinary profit shown in 
 the preceding section, and there will also be credited in- 
 comes that are directly connected with capital, such as the 
 results of investments that may have been made, interest 
 earned, discounts obtained, etc. On the debit side, will be 
 entered all those outlays growing out of, or depending up- 
 on, the use of capital, chief among which will be the inter- 
 est on loans and the like. The balance of this section gives 
 the net profit realized by the concern and represents what 
 the business has left after paying (a) its actual selling 
 expenses not allocated in the various trading accounts; (b) 
 its business expenses, taxes, overhead charges, losses, and 
 the like; and (c) the cost of keeping borrowed capital at 
 work and other expenses connected with capital. Still the 
 account as thus balanced does not show what distribution 
 has been made of the net profit exhibited. As we saw in 
 our foregoing treatment (see p. 92), it may be, in many 
 cases, will be, desired to set apart some portion of the pro- 
 fits for the purpose of establishing a reserve or a fund for 
 depreciation, or for other purposes. Moreover it may be 
 desirable, if the business is a partnership, to show distinct- 
 ly how the distribution has been made among the partners, 
 or if it is a corporation how the distribution of net profit 
 has been made between the different classes of stock. This 
 final section of profit and loss account may be called '^pro- 
 fit and loss appropriation account." It will be opened on 
 the credit side with the total net undistributed profit shown 
 by the preceding section and there will be no further credit 
 entries. The debit entries will show^ the distribution as be- 
 
THE PRINCIPLES OF ACCOUNTING 
 
 149 
 
 tween different sharers in the profit, reserve, undivided 
 profits, etc. To make this whole method clearer we may; 
 present the following illustration of such a subdivided pro- 
 fit and loss account as is here contemplated.* 
 
 PROFIT AND LOSS ACCOUNT. 
 
 Expenditure. 
 
 
 Income. 
 
 
 To cost of goods less dis- 
 
 
 By gross sales less trade dis- 
 
 
 counts, 
 
 
 counts, 
 
 
 " outlay involved in sell- 
 
 
 
 
 ing goods, including com- 
 
 
 
 
 missions and expenses, 
 
 
 
 
 wages of clerks and others, 
 
 
 
 
 freights and expenses, cash 
 
 
 
 
 discounts. 
 
 
 
 
 " balance carried down as 
 
 
 
 
 gross, profit 
 
 
 
 
 To fixed expenses, including. 
 
 
 
 
 Rent, taxes, etc.. 
 
 
 By balance brought down as 
 
 
 Repairs and running office 
 
 
 gross profit. 
 
 
 costs, 
 
 
 " income not due to selling 
 
 
 Overhead charges in gen- 
 
 
 such as. 
 
 
 eral, 
 
 
 Rents, 
 
 
 Depreciation, 
 
 
 Income from other outside 
 
 
 " business losses, such as 
 
 
 sources. 
 
 
 Bad debts. 
 
 
 
 
 Defalcations, 
 
 
 
 
 " balance carried down as 
 
 
 By balance brought down as 
 
 
 profit on ordinary business, 
 
 
 
 
 
 
 
 
 ordinary business profit. 
 
 
 
 
 "income from use of cap- 
 
 
 To expenses in getting cap- 
 
 
 ital, such as. 
 
 
 ital, such as 
 
 
 Income from investments. 
 
 
 Interest on bonds or loans. 
 
 
 Interest earned, 
 
 
 " balance carried down as 
 
 
 Cash discounts secured (of 
 
 
 net profit, 
 
 
 certain classes). 
 
 
 To allocation of profit. 
 
 
 By balance of net profit 
 
 
 Interest on capital, 
 
 
 brought down, 
 
 
 Profit assigned to capital, 
 
 
 
 
 Profit segregated as re- 
 
 
 
 
 serve. 
 
 
 
 
 " profit undivided and car- 
 
 
 . 
 
 
 ried forward. 
 
 
 
 
 
 
 
 ♦See Lisle: Accounting in Theory and Practice, pp. 57, iff. 
 
150 HENRY PARKER WILLIS 
 
 Uses of Profit and Loss Account. 
 
 What has been said indicates the main purpose of the 
 profit and loss account and suggests the ideas and char- 
 acter of information which can be obtained from an analy- 
 sis of a carefully kept profit and loss statement by a stu- 
 dent who wishes to find out what the concern has been do- 
 ing. The profit and loss account, if kept in the way already 
 indicated, will show the amount of the operations of the 
 business as a whole as well as the amount of the operations 
 of the various departments considered. But, in addition, 
 it will also show the total amount of expenditure and the 
 amount of expenditure in each several department result- 
 ing from the given volume of operations. From this can be 
 inferred, as already indicated, the gross profit which is 
 realized on the selling branches of the business. It is, 
 moreover, possible to compare the overhead charges which 
 are necessary by reason of the method of organization of 
 the business, the amount of the salaries of its officers, the 
 cost of its general expenses due to the payment of rent, 
 and the like. These can be contrasted with the volume of 
 business that is being done and the profits that are being 
 earned in consequence. From this, it is possible to deduce 
 a definite idea as to the relation of general management 
 expenses to the total operations and to recognize a condi- 
 tion, should it arise, where too much is being expended up- 
 on general management as compared with the actual prac- 
 tical operations of the enterprise. From such a profit and 
 loss account, too, it can be seen how far the concern has 
 lost through unforeseen conditions or through conditions 
 which were not due to slack sales but to bad judgment, such 
 as in trusting, or giving credit to, the wrong person. The 
 final section of the account shows what proportion is borne 
 by fixed charges, reserves, etc., to the total net profit, 
 if any, and this, of course, suggests the conclusions or infer- 
 ences which are unavoidably to be drawn from the show- 
 
THE PRINCIPLES OF ACCOUNTING 151 
 
 ing made with reference to the relation of the fixed charges 
 to the general net income realized on the capital, whether 
 that capital be borrowed or directly placed in the business 
 by the shareholders or partners. Thus it is possible to 
 analyze the condition of the concern from a large general 
 standpoint. This would not have been possible in a pro- 
 fit and loss account, however accurate, where no distinc- 
 tion was made between the different sources or kinds of 
 profit and the different sources or kinds of income and 
 where no effort was made to compare those sources or 
 kinds of profit or income with the sources or kinds of ex- 
 pense or loss that were directly and intimately associated 
 with them or that were due to the same broad conditions. 
 The general principle which we have pursued in sub-divid- 
 ing profit and loss account has been merely that of analy- 
 sis, elements of profit and loss arising from the same con- 
 ditions being grouped together in one section of the account 
 on the credit and debit sides respectively, the balance there 
 exhibited being then transferred to the next section as an 
 opening credit (or debit, if the outlay exceeds the income). 
 
 Income and Expenditure. 
 
 It is clear that in thus analyzing profit and loss account 
 we have substantially abandoned the narrow conception of 
 ** Profit" and *'Loss" although we may find it convenient 
 to retain these conventional names. What we have done 
 has been to substitute an analysis or grouping of incomes 
 and outgoes. The profit and loss account is thus seen to be 
 really an income account in some of its aspects. The term 
 ** Income Account" is by some reserved for the section of 
 profit and loss which we termed ''Net Profit Account" and 
 sometimes for a combination of that and the preceding 
 business profit account or section (the second of those 
 enumerated above on p. 147) . It is obvious that in dividing 
 incomes and expenditures among these various sections it 
 may be difficult to tell in any given case whether a speci- 
 
152 HENRY PARKER WILLIS 
 
 fied outlay of money belongs in one section or in the other. 
 This difficulty will arise because it is not possible in every 
 case to know the precise purpose for which the expenditure 
 is made and consequently the precise effect it will have. In 
 the same way it may be difficult to determine definitely 
 whether a given income is assignable to one or the other 
 section. It may be said in general that all incomes and 
 expenditures may be divided into two classes — capital in- 
 come and capital expenditure, and revenue income and 
 revenue expenditure. This idea needs, however, some 
 further elucidation. Suppose that a concern has started 
 business with a given amount of invested capital, say 
 $8,000. It may be supposed that $2,000 of this is invested 
 in real estate, $1,000 in fixtures and plant, and the rest 
 in goods. Now if in the course of the year an addition 
 be made to the real estate or building in which the 
 concern is located costing, say, $500, this being paid 
 out of the regular incomes, it is evident that the ^* ex- 
 pense" or **loss" thus incurred is not a ^4oss" in 
 the sense that it is a sacrifice of the amount spent. 
 The amount expended constitutes an additional in- 
 vestment. Supposedly it would be credited to cash and 
 debited, perhaps, to a betterments and improvements ac- 
 count. It would in that case appear on the debit side of 
 profit and loss account, being presumably assigned to the 
 section of profit and loss which deals with the expenditures 
 and incomes distinctly relating to capital (the third sec- 
 tion in the analysis made on p. 148). This would be an actu- 
 al outlay of cash, and as such, would constitute a deduction 
 from total revenue since it is paid out of total revenue. 
 Clearly, however, such a showing would not tell the whole 
 story, inasmuch as there would be no indication of the ex- 
 istence of an item of capital or permanent investment 
 growing out of the transaction. Unless, therefore, there 
 were a credit entry showing an increase in assets of the 
 value of the amount invested, the account would be incom- 
 
THE PRINCIPLES OF ACCOUNTINa 153 
 
 plete. If this outlay had been directly credited to capital 
 in the first place as it might have been where an individual 
 was carrying on business alone, or to surplus (practically a 
 section of capital account) where the concern was a corpor- 
 ation; there would have been as before a credit in cash and 
 a debit to betterments. This would now be supplemented 
 by the credit to reserve and a debit to the particular asset 
 account concerned — in this instance, real estate. In that 
 case the object of truthfulness would have been fully at- 
 tained since it would have been shown that there was an 
 increase in the capital assets of the concern of $500 and a 
 decrease in the floating cash on hand of $500. The profit 
 side of profit and loss would not have been brought into 
 the transaction and perhaps need not have been. It is, 
 however, plain that such an arrangement of the entries 
 would not have given the whole data. Inspection of the 
 profit and loss account would have revealed nothing about 
 the transaction to one who merely looked at profit and loss 
 and at nothing else. If the credit entry is made in cash 
 when cash is paid out a corresponding debit being 
 assigned to ''betterments and improvements" — and if 
 at the end of the year or other fiscal period the debit 
 balance in betterments and improvements be trans- 
 ferred to the debit side of profit and loss as a loss, 
 the account will merely show that there has been an item 
 of outlay or loss which has been incurred for the purpose 
 of enlarging or improving certain fixed assets. Yet the in- 
 creased assets are actually a gain to the business and cor- 
 responding credit entry in profit and loss to represent such 
 an addition to wealth could be secured only by crediting 
 an account with the amount of assets or cash which it sup- 
 plies to the business as we did in the case of ''reserve" and 
 then taking this up upon the credit side of that section of 
 the profit and loss account which represents the outlaj^s 
 and incomes connected with capital. In that event the pro- 
 fit and loss account would show that there had been an in- 
 
154 HENRY PARKER WILLIS 
 
 come of assets received by the concern and an outlay of 
 cash on improvements. In the last analysis, in such a case, 
 profit and loss would show a profit w^hich was partly made 
 up of cash and partly of fixed assets that had come into the 
 possession of the concern and it would show a loss that was 
 partly composed of outlay for running expenses and partly 
 of outlays for the purchase of the new fixed capital. In 
 this case by carrying the transaction through profit and 
 loss it would be shown that there had been an outlay of in- 
 come in the form of additions to fixed capital. The income 
 statement, really a more detailed description of profit and 
 loss, would show the destination of income and the use 
 made of it, as well as the fact that this income was on hand 
 in a fixed form. Wliile this system might be theoretically 
 correct, it is customarily desirable to have the profit and 
 loss account deal only with cash incomes and cash outlays. 
 If, therefore, upon spending cash for the improvement al- 
 ready referred to, cash account is credited, betterments ac- 
 count is debited, the transfer of this debit is made to profit 
 and loss and nothing is said of the growth of the assets, the 
 profit and loss statement will show that income has been ex- 
 pended in the way indicated while, by crediting capital 
 or reserve with the value of improvements made and 
 debiting the corresponding real account, the fact that cap- 
 ital has been enlarged to that extent is sufficiently indicat- 
 ed. This case is clear enough in so far as concerns the 
 nature of the outlay. But there are many cases in which 
 the nature of an outlay is not so easily determinable. For 
 instance, if in the case cited, the outlay had been made for 
 the purpose of putting a new roof upon the building oc- 
 cupied by the concern, it might fairly be questioned wheth- 
 er this was an addition to fixed capital or whether it was 
 simply a restoration of capital that had become worn out, 
 the cost of the restoration being in that case obviously a 
 real loss or cost of doing business. If in such a case repairs 
 account was debited and cash credited, repairs would prop- 
 
IN( (),\\1- ACCOUNT 
 
 Operating Income . 
 
 
 
 
 
 
 ~ 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Rail Orcr:itn>n5 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 0|v,.ilii,- Rcvi'iiiK';,- 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 . 
 
 
 
 
 
 
 
 
 
 Opcr.ilm.; Expfi^c— 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 NET OPtKAIIM. Rl.VI M 1 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Net Opf rating Deficit 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Re\cniit.s. 
 
 
 
 
 
 
 - 
 
 
 
 
 
 
 - 
 
 
 - 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 E^pen^eb, 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Net Revenue from OuT!>ide Operaiions, 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Net Deficit from Outside Operations, 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 h 
 
 
 
 
 
 
 Total Net Revem e, 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 . 
 
 
 ' 
 
 
 
 Total Net Deficit, 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Taxes AarueJ— 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 . 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Operating Income 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Operating Loss, 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Other Income 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Ri-ms AariK-J from Lease of Ro.iJ— 
 
 
 
 . 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 • 
 
 
 
 
 
 
 
 
 
 Ottii-f Rtiits— Credits. 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 (.1) Hin . f Equipment— Baiana— 
 
 
 
 
 
 
 
 
 
 
 
 
 
 f 
 
 
 
 
 
 
 
 
 
 
 
 • 
 
 
 
 
 
 • 
 
 
 
 
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 • 
 
 
 
 
 
 
 
 
 
 (c) Miscellaneous Rents—', 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 • 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Separate!)' Operated Properties- Profit — 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Dividends Declared on Siucks Owned or Con 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 trolled— 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Interest Accrued un Funded Deht Owned or Con- 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 trolled - 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Interest on Other Securities, Loans, and Accounts, 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 • 
 
 
 
 
 
 
 
 
 
 Unextinguishcl I'rcmiiinis un nmstanrlini; Pundi'il In W 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Miscellaneous Income— 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 -\ 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Total Other Income., 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Gross Corporate Income earned foru ird. 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Gross Corporate Loss carried forward, 
 
 
 
 • 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
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 ~ 
 
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 L 
 
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 J 
 
JNCOME ACCOUNT— CONCLUDED. 
 
 Gross Corporate Income brought forward. 
 
 
 
 
 
 
 
 
 
 
 
 r 
 
 
 
 
 
 
 
 
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 T 
 
 
 ~r 
 
 "^ 
 
 " 
 
 
 ~ 
 
 
 
 "TT 
 
 Gross Corporate Loss brought forward, 
 
 
 . 
 
 
 
 . 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 , 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 DEDUCTIONS FROm GROSS CORPORATE INCOME: 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Renis Accnii'd lur Leasi- of Other Roads- 
 
 
 . 
 
 
 
 . 
 
 
 
 . 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Other Rents— Debits. 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 (a) Hire of Equipment— Balance— 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 , 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
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 , 
 
 
 
 
 
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 . 
 
 
 
 
 i, 
 
 
 
 
 
 
 
 
 
 
 V 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Separately Operated Properties— Loss- 
 
 
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 Interest Accrued on Funded Debt- 
 
 
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 • 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 E.xtinguishment of Discount on Securities, 
 
 
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 Sinking and Redemption Funds Ch.irfie.ible to Incomi-, 
 
 
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 TOTAL Deductions )™croiscorpo„i. income 
 
 
 , 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
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 Net Corporate Income, 
 
 
 , 
 
 
 
 
 
 
 
 
 
 
 
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 Net Corporate loss, 
 
 
 
 
 
 . 
 
 
 
 
 
 
 
 
 
 
 
 . 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Disposition of net Corporate Income: 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Dividends Declared- 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 fa) On Common Stock— 
 
 
 . 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 per cent payable 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 • 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 per cent payable 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 (*) On Preferred Stock— 
 
 " 
 
 . 
 
 
 
 '. 
 
 
 
 
 
 
 
 
 
 
 
 . 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 per cent payable 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 per cent paj'able 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 (c) On Debenture Stock — 
 
 
 :. 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
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 per cent payable 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 . 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 per cent payable 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 (d) On Receipts Outstanding for Installments Paid— 
 
 
 
 
 
 . 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 per cent payable 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 per cent payable 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Appropriations for Additions and Betterments: 
 
 
 - 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 (a) Expended During the Year, 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 (A) Held in Reserve, 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Appropriations for New Lines or Extensions. 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 (a) Expended During the Year, 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 (b) Held in Reserve, 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Appropriations for Other Reserves, 
 
 
 . 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 . 
 
 
 
 ^ 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Balance for Year Carried Forward 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 TO Of Profit and Loss, 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
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 u 
 
 
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 _u 
 
THE PEINCIPLES OF ACCOUNTINa 155 
 
 erly be closed into profit and loss without any other ac- 
 counting, and it would be seen that a part of the expense 
 or outlay of the concern had been for the purpose of main- 
 taining capital in as good a shape as it was at the start. 
 The question whether to regard a given outlay as intended 
 for the purpose of and actually accomplishing, an enlarge- 
 ment of the capital assets, or to treat it as actually an out- 
 lay for running expenses is always difficult in any business 
 where the question of depreciation enters in. Thus in con- 
 cerns employing machinery very largely a certain expense 
 of maintenance has to be met each year and it is always an 
 open question how far repairs on such machines are actu- 
 ally an element in the necessary and unavoidable cost of 
 operating them and how far they are correctly regarded as 
 a provision against depreciation, tantamount to an in- 
 crease of capital as compared with the situation which 
 would have existed had there been no such provision for 
 upkeep. 
 
 Income Sheet of a Railroad. 
 
 The foregoing principles may be illustrated to an extent 
 by considering the income statement for railroads suggest- 
 ed by the Interstate Commerce Commission as properly the 
 one to be employed in reporting conditions for a fiscal per- 
 iod. This income statement may be regarded as in a true 
 sense a representation of a profit and loss account in a 
 different form, the debit entries and credit entries not be- 
 ing arranged on opposite sides of the page or in the con- 
 ventional way which is demanded by accounting. It will 
 be seen from the form herewith presented, that 
 the income statement gives substantially all the items al- 
 ready referred to. There are shown the gross operating 
 revenues, operating expenses which correspond to the bal- 
 ances of the trading section of profit and loss account. 
 Then are given the results of rentals and other sources of 
 income both actually realized and accrued, as well as the 
 
>IC: A«_«^UU1N I — I^UNCLUUbU. 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
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THE PRINCIPLES OF ACCOUNTINa 155 
 
 erly be closed into profit and loss without any other ac- 
 counting, and it would be seen that a part of the expense 
 or outlay of the concern had been for the purpose of main- 
 taining capital in as good a shape as it w^as at the start. 
 The question whether to regard a given outlay as intended 
 for the purpose of and actually accomplishing, an enlarge- 
 ment of the capital assets, or to treat it as actually an out- 
 lay for running expenses is always difficult in any business 
 where the question of depreciation enters in. Thus in con- 
 cerns employing machinery very largely a certain expense 
 of maintenance has to be met each year and it is always an 
 open question how far repairs on such machines are actu- 
 ally an element in the necessary and unavoidable cost of 
 operating them and how far they are correctly regarded as 
 a provision against depreciation, tantamount to an in- 
 crease of capital as compared with the situation which 
 would have existed had there been no such provision for 
 upkeep. 
 
 Income Sheet of a Railroad. 
 
 The foregoing principles may be illustrated to an extent 
 by considering the income statement for railroads suggest- 
 ed by the Interstate Commerce Commission as properly the 
 one to be employed in reporting conditions for a fiscal per- 
 iod. This income statement may be regarded as in a true 
 sense a representation of a profit and loss account in a 
 different form, the debit entries and credit entries not be- 
 ing arranged on opposite sides of the page or in the con- 
 ventional way which is demanded by accounting. It will 
 be seen from the form herewith presented, that 
 the income statement gives substantially all the items al- 
 ready referred to. There are shown the gross operating 
 revenues, operating expenses which correspond to the bal- 
 ances of the trading section of profit and loss account. 
 Then are given the results of rentals and other sources of 
 income both actually realized and accrued, as well as the 
 
156 HENRY PARKER WILLIS 
 
 incomes earned from investments — these corresj5onding to 
 credit entries in the second and third sections of profit and 
 loss account as above given. The debit entries are seen 
 in the showing made with reference to outlay on these same 
 general accounts, while what corresponds to the appor- 
 tionment (the last section of profit and loss as above an- 
 alyzed), is shown in the statement of Interest Accrued, 
 Sinking Fund Charges, Dividends Declared, etc. This af- 
 fords all of the items of information already referred to 
 although the formal grouping is not put into the technical 
 shape demanded by accountancy. 
 
 Business Results. 
 
 It is clear that the profit and loss statement or income 
 sheet will not show the business results of the concern in 
 any satisfactory way unless all of the entries have been 
 made upon a basis of good judgment and unless every item 
 of income and expenditure has been included. The show- 
 ing of profit and loss will be incomplete and unsatisfactory 
 unless there is some allowance for such items as Depreci- 
 ation, Reserves, etc., intended to cover the actual wearing 
 away of fixed assets and the provision for the losses which 
 are certain to fall upon a concern in realizing upon its as- 
 sets no matter how conservatively they may have been 
 valued. Some personal accounts will always turn out to 
 be bad and many fixed assets if sold will realize less than 
 the amount at which they were originally bought and fre- 
 quently less than the amount at which they were carried 
 on the books. Profit and loss account, then, shows the true 
 result of the operations for the year or other fiscal period 
 only after due allowance has been made not only for all 
 elements of income and outlay in the form of cash, but after 
 proper allowance has been made for all incomes and out- 
 goes that take the form of increases or decreases in own- 
 ership and value. When this has been done, the balance 
 of profit and loss shows the net increase in value that has 
 
THE PRINCIPLES OF ACCOUNTINa 157 
 
 occurred during the year and consequently the state of 
 the assets and liabilities as affected by the operations of 
 the year. Clearly, too, the results will be correctly shown 
 only in the event that there has been an accurate taking of 
 stock. For instance, in the retail business concern, we saw 
 that to close goods account it is necessary in the first place 
 to have a careful inventory, or in some way to ascertain the 
 value of the goods on hand, otherwise the results would be 
 incomplete and would not admit of comparison because 
 they would not show w^here the concern stood. The same 
 thing is true of fixed capital. It is not possible to tell what 
 the result of a year's operation has been unless recognition 
 is made of the fact of depreciation, or, what amounts to the 
 same thing, physical assets are revalued. Such revaluation 
 of physical assets is equivalent to the stock-taking process. 
 If there were a revaluation of such assets at the end of 
 each year or other fiscal period before writing up profit and 
 loss account and if depreciation had occurred as it usually 
 would, this would mean a debit entry in profit and loss 
 corresponding to depreciation. The consequence would be 
 that net profit would be reduced to a corresponding extent. 
 The same result is attained when, after ascertaining what 
 is called net profit, an allocation of such profit is made by 
 debiting in profit and loss account an entry representing the 
 amount set aside for depreciation, depreciation account be- 
 ing thereupon similarly credited. If a credit entry be now 
 made in eacla of the assets or plant accounts to show the 
 amount of reduction in the value of assets estimated to 
 have taken place in the course of the year, depreciation will 
 be debited. So also in the case of the inventory the ques- 
 tion of accuracy in profit and loss will be sharply affected 
 by the method adopted in valuing the goods. If, for ex- 
 ample, an old stock is carried along on the books (and in 
 the inventory) at the cost price originally paid for it, when 
 as a matter of fact it has depreciated a good deal owing to 
 change of style or fashion, this merely means that an ele- 
 
158 HENRY PARKER WILLIS 
 
 ment of loss in the business has been concealed and that 
 profit and loss account has not been conducted in such a 
 way as to make an accurate showing of the results of the 
 business. Here we have another example of depreciation, 
 exhibiting itself in the case of goods where no provision 
 is made for recognizing their deterioration in selling power 
 or capacity to command money. 
 
 Profit and Loss Analysis. 
 
 Ifrom what has been said it will be understood that the 
 showing made by profit and loss account is at all times a rel- 
 atiA^e matter. Profit and loss, as has been seen, may or may 
 not take account of depreciation; it may or may not take 
 account of appreciation; it may or may not represent an 
 accretion of new forms of wealth represented by additional 
 assets purchased out of current incomes. Whether profit 
 and loss shows anything definite or not depends upon the 
 way in which it has been made up. It may show nothing 
 more than the actual surplus of current cash income over 
 current cash outgo. Or it may show the difference between 
 the changes that have taken place in the direction of great- 
 er ownership over those that have taken place in the direc- 
 tion of reduced o^vnership. For example, a concern organ- 
 ized to exploit a valuable patent or franchise which had a 
 definite number of years to run and which had been paid 
 for in a lump sum might show very large profits from year 
 to year resulting from actual operation and yet might be 
 found to be a losing business when the gross profit made 
 was reduced by deducting an amount corresponding to the 
 fact that a year's life of the franchise or privilege had dis- 
 appeared. The alternative tha? is offered in making up 
 a profit and loss account is at all events obvious. It may be 
 made to include simply cash or liquid incomes and outaroes 
 or it may be made to include additions to and deductions 
 from capital. If it is the former then the changes in the 
 value of capital do not figure in profit and loss but go ul- 
 
THE PRINCIPLES OF ACCOUNTING 159 
 
 timately to capital account through revahiation of assets 
 or otherwise. It cannot be said that there is a definite de- 
 termination as to the attitude to be taken by a business on 
 this question in organizing its accounting and in making 
 its profit and loss showing. This is why the auditor or ex- 
 aminer who is going through the books of a concern always 
 studies profit and loss with particular care in order to 
 make up his mind as to the way in which the account has 
 been constructed. If it has been constructed in a certain 
 way, a given kind and scope of additional information may 
 be needed. In another way, the nature of the additional 
 data would be different. A profit and loss account carried 
 on so as to show simply the increase in cash means, 
 due to the selling of goods for more than their cost, deduct- 
 ing the selling cost, has to be supplemented by an accurate 
 statement of the remaining value of goods on hand, or, if 
 the plant is one which employs fixed capital, it must be sup- 
 plemented by a statement showing changes in the value of 
 such fixed capital,«or if the concern has sold goods on credit 
 for sums that are not collectible, thus giving rise to bad 
 debts, that fact must be noted. The question whether a 
 profit is actually available for distribution is thus a very 
 serious one, not only in an accounting sense but also in the 
 broader economic sense which imderlies accounting. The 
 subject has been dealt with extensively by the courts both 
 in England and the United States but it cannot be said 
 that there is thus far any definite consensus of opinion as 
 to the legal position of this issue. The matter is clearer 
 where a given form of accounting has been prescribed for a 
 given class of concern and is enforced upon that concern 
 through public examination. Thus the national banking 
 act prescribes that national banks shall not declare a divi- 
 dend until after they have accumulated a surplus of at least 
 20 per cent of their capital. In determining whether sucii 
 a surplus has been accumulated or not, the Comptroller of 
 the Currency ascertains whether the assets of the concern 
 
160 HENRY PARKER WILLIS 
 
 contain any element of bad paper and if such an element is 
 present it is usually deducted in estimating the surplus. 
 But what is comparatively simple with a financial institu- 
 tion is very far from simple when trade values, fixed capital 
 of doubtful worth, stocks of raw materials which are fluctu- 
 ating in value, and other items of the same sort are brought 
 into question. Here there may be a very fair difference of 
 opinion as to whether a concern has made a profit or not, or 
 incurred a loss or not, and the question can be settled only 
 tentatively and by the use of good business judgment. 
 
 Declaration of Dividends. 
 
 Upon the question whether a profit has or has not been 
 earned depends ordinarily the action of the concern in de- 
 claring dividends. It may be good judgment not to declare 
 a dividend even when a profit has been earned but to keep 
 it in the business for the purpose of enlarging operations 
 and rendering possible a larger volume of business. If 
 there is a good deal of what is called ''water" in the cap- 
 italization, it may be very desirable to keep the profit in 
 the business for the purpose of bringing the actual worth 
 of the assets nearer to an equality with the capital stock 
 that has been authorized and issued. Conversely, it may 
 be good policy to declare a dividend when a nominal loss 
 has been incurred, such loss being perhaps simply due to 
 reinvestment of profits in assets whose increased value does 
 not appear in the profit and loss account. For example, 
 if a concern of $25,000 capital has in the course of a year 
 invested, say, $5,000 in new machinery, paying therfor out 
 of current receipts which would otherwise have appeared as 
 profits, its profit and loss account may not show any profit. 
 If the concern has a fair balance of cash the declaration of 
 a dividend might well be warranted on the ground that 
 a substantial earning had been made and that, through its 
 reinvestment, any immediate necessity for further invest- 
 ment of the same kind had been avoided. The declar- 
 
THE PRINCIPLES OP ACCOUNTINa 161 
 
 ation of a dividend is at all times largely a matter of policy. 
 A concern whose assets are recognized as declining in value 
 and likely to continue to decline, as in the case of the con- 
 cern which is working a terminable patent right or fran- 
 chise considered in a former illustration, may be perfectly 
 justifiable in declaring a dividend if the conditions are 
 known to the stockholders and, if they realize that 
 by accepting a dividend which represents a division of such' 
 a profit, they are really accepting a partial return of their 
 ownership in the capital of the concern. The profit and 
 loss account must be studied in connection with the bal- 
 ance sheet and this will next be undertaken. It must how- 
 ever be borne in mind that even when studied in connec- 
 tion with the balance sheet the same questions as to de- 
 preciation, appreciation, representation of accrued assets 
 and liabilities, etc., that have already been spoken of in 
 profit and loss are still present and require to be taken 
 account of the more carefully in the balance sheet if they 
 have not been dealt with in profit and loss account. If they 
 have not been provided for in the accounting at all, the 
 same remarks that apply to profit and loss apply in like 
 measure to the balance sheet after profit and loss has been 
 incorporated therein. 
 
 XI. THE BALANCE SHEET. 
 
 Object of the Balance Sheet. 
 
 A brief reference has already been made to the balance 
 sheet in speaking of bookkeeping and of the methods of 
 stating the affairs of a business (See p. 40 foregoing). It is 
 now necessary to consider more particularly what is meant 
 by a balance sheet and what relation it bears to the account- 
 ing and bookkeeping of the concern. Essentially the bal- 
 ance sheet is a statement of assets and liabilities designed 
 to show where the concern stands in relation to the rest 
 of the world. When compared with former balance sheets, 
 
 B— VIII— 11 
 
162 HENRY PARKER WILLIS 
 
 it shows how the operations of the concern during a fiscal 
 period have altered its position as compared with the posi- 
 tion it occupied at the close of a preceding fiscal period. 
 Obviously, then, the things which must be aimed at in a 
 balance sheet are not only an accurate representation of 
 assets and liabilities, but an accurate classification of such 
 assets and liabilities in such a way as to throw them into 
 groups comparable with one another, thus showing what 
 the character of the assets and liabilities is, and how assets 
 and liabilities of various descriptions correspond wdth one 
 another. For instance it would not be enough to show that 
 a concern had $100,000 of assets and $100,000 of liabilities. 
 Neither would it be enough to show that the concern had 
 assets of $100,000 and liabilities of $100,000, the latter be- 
 ing to the extent of $50,000 capital invested. The person 
 who looked over the balance sheet would want to know of 
 what things the assets consisted and what was the nature 
 of the liabilities. Among the assets he would certainly 
 want to discriminate between cash, real estate, plant, and 
 bills receivable, and among liabilities he would want 
 to discriminate between capital, bills payable, and other 
 classes of possible demands. He would want to know 
 whether the bills payable were short-time or long-time and 
 what ones had either matured or were about to mature. As 
 the business becomes more and more complex the necessity 
 for very careful preparation of the balance sheet becomes 
 more and more obvious. 
 
 What are Assets and Liabilities? 
 
 Some writers on accounting and bookkeeping consider 
 it sufficient to say that the assets of a business are found 
 in the debtor entries in its ledger accounts, while the lia- 
 bilities are found in the creditor entries. That is to say, 
 the accounts in which debit entries exceeded credit entries 
 would be assets to the extent of such excess and, vice versa, 
 the accounts where credit entries exceeded debits would be 
 
THE PEINCIPLES OF ACCOUNTINa 163 
 
 liabilities to the extent of such excess. This rule is not 
 complete or adequate, for in preparing a balance sheet from 
 the ledger there will often be found a good many accounts 
 that do not represent assets or liabilities as such but sourc- 
 es of expense or income. Mr. Dicksee suggests the follow- 
 ing rules for determining in such oases whether an item 
 is an asset or a liability: 
 
 (1) When an item is on the left-hand or debtor side of the ledger — 
 
 (a) If the amount will eventually be received, it is an asset. 
 
 (b) If the amount will not eventually be received, it is a loss. 
 
 (2) When an item is on the right-hand or creditor side of the ledger — ■ 
 
 (a) If the amount will eventually have to be paid, it is a liability. 
 
 (b) If the amount will not eventually have to be paid, it is a gain. 
 
 As has previously been seen (see pp. 152, ff. foregoing), 
 what are classified as gains and losses are carried to profit 
 and loss, while assets and liabilities in the technical sense 
 are not so transferred to profit and loss, but represent addi- 
 tions to the stock or decreases in the basic stock of wealth 
 owned by the concern. We may illustrate this idea still fur- 
 ther by considering the case of so-called ^^ accrued" expens- 
 es. For instance, suppose that a business is drawing off 
 a balance sheet to represent the condition of affairs on 
 July 1 of a given year. We may assume for the sake of 
 argument that its rent for the year is $500 and that by the 
 terms of a special agreement such rent is not payable until 
 the end of the calendar year or on December 31. Now this 
 is not an immediate liability and nothing has been paid on 
 it. The business, however, has occupied the building for 
 six months, or in other words it owes, up to date, $250 to the 
 owner of the building because it has occupied the place 
 for that length of time and this amount is properly and 
 proportionately chargeable. How would this be represent- 
 ed? We might open an account headed "Rent" as in fore- 
 going illustrations. Now if it were possible to pay the 
 rent for the half year and have done with it we should sim- 
 ply credit cash $250 and debit rent account **To cash for 
 rent of half year ending June 30. . .$250." "Rent" would 
 then be closed into profit and loss. But, by the terms of our 
 
164 HENRY PARKER WILLIS 
 
 supposition, we do not pay out any cash. If, therefore, we 
 want to represent the state of affairs on our books we must 
 resort to a device for that purpose. Theoretically we might 
 open an accoimt with ''Accrued Rent" which we would 
 credit with the amount of the rent which had been incurred 
 during the six months in question. To complete our double 
 entry bookkeeping we might then open an account with 
 **Rent" which we would debit with the occupancy of the 
 building as "To use of building to June 30. .$250." Then 
 of course when the end of the year came and the accrued 
 rent became due an entry would be made to cancel it. Cash 
 would be credited and accrued rent debited "To Rent." 
 Meanwhile in making out the balance sheet we should have 
 two open accounts — one accrued rent with a credit surplus, 
 the other rent with a debit surplus. Applying the test 
 already suggested it will be seen that in the case of rent 
 where the entry is on the left hand or debtor side, as the 
 amount will not eventually be received but will eventually 
 have to be paid, it is a loss. With accrued rent where 
 the entry is on the credit side the amount will eventuallj^ 
 be paid so that it is a liability. The effect of this then 
 would be to carry the debtor entry in the rent account to 
 the expense side of profit and loss while the credit entry 
 in accrued rent account is a liability. The balance sheet 
 when finally drawn off will show rent as a liability to the ex- 
 tent of $250 while profit and loss will show the amount due 
 on the expense side as a loss, thereby cutting do\ATi the net 
 profit exhibited by profit and loss and leaving a balance in 
 cash account of $250 which increases the assets in hand to 
 that extent and offsets the liability for rent which is exhib- 
 ited among the liabilities as already indicated. Other meth- 
 ods of representing this transaction might be adopted but 
 the principle would be the same throughout. The same idea 
 might be applied in the case of other doubtful entries where 
 it was uncertain how to class them — as resources or liabil- 
 ities. The point upon which insistence is here placed, how- 
 
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THE PRINCIPLES OF ACCOUNTINa 165 
 
 ever, is that every account in the ledger may thus be an- 
 alyzed and a conclusion arrived at as to whether its balance 
 is an asset or a liability, a profit or a loss. The principle of 
 double entry which has been followed throughout our dis- 
 cussion shows that if every debit footing is taken from the 
 ledger and arranged in a column for that purpose and if 
 the same is done with every credit footing, the two sides 
 will total the same. Such an arrangement is called a trial 
 balance and the same term is applied to a listing of debtor 
 and creditor balances as shown by the various accounts — 
 which of course works out in the same way, that is, both 
 columns, debtor and creditor, are equal. This is the first 
 step toward ascertaining whether the work is correct and 
 toward closing up the books as has already been seen. (See 
 p. 36 foregoing.) 
 
 Preparing the Balance Sheet. 
 
 The question of preparing the balance sheet can now be 
 considered. It has been made plain that whereas profit, 
 gain or income accounts are closed into profit and loss, loss, 
 expense or outlay accounts are also closed into profit and 
 loss on the debit side. Plainly, then, profit and loss is a sum- 
 marized and balanced statement of certain accounts which 
 now figure in the trial balance. Suppose that profit and 
 loss is written up in the way already indicated (see p. 37 
 foregoing) by transferring the loss or outlay balances to 
 debit side of profit and loss, the income or gain balances to 
 the credit side, and striking a balance between them. This 
 means that all of the accounts thus grouped have been 
 sifted out from the complete statement of balances shown 
 in the trial balance. The complete balance sheet will be 
 made up by listing all the assets and all the liabilities grow- 
 ing out of or represented in the accounts which have not 
 been closed into profit and loss, and then taking the bal- 
 ance shown in profit and loss and entering it either as a net 
 profit or as a loss as the case might be, it being of course a 
 
166 HENRY PARKER WILLIS 
 
 liability to owners or proprietors the same as capital when 
 it is a profit, and an asset when the balance shows a loss. 
 Profit and loss account of course is closed into capital ac- 
 count and, this having been done, the net profit appears 
 in conjunction with capital as a liability. The difference 
 between assets and liabilities before capital account has 
 been written up from profit and loss is the net capital — 
 that is, the capital originally shown plus such addition as 
 may have been made to it owing to the operations of the 
 year. If the difference between assets and liabilities is 
 equal to the amount shown in capital account by writing up 
 that account from profit and loss, the work of bookkeeping 
 has presumably been correctly performed. It thus ap- 
 pears that the balance sheet is a statement (in complete 
 form) of the ledger balances, supposing everything to be 
 recorded there, including both accrued and realized items 
 but omitting the purely expense and income items which 
 have been balanced against one another, the surplus or 
 deficit being carried to capital account and thus appearing 
 there as a net addition to or deduction from capital. Wliat 
 is meant by this statement may be illustrated in compact 
 form by taking a statement in which is exhibited in par- 
 allel columns the trial balance, inventory, profit and loss, 
 and balance sheet as they stand related to one another. In 
 order to make out such a typical statement we may suppose 
 the existence of two concerns, A and B, which owe the 
 business and two others, C and D, to which the business 
 is in debt — both on open accounts. Then taking the regu- 
 lar typical accounts such as bills payable and receivable, 
 goods, rent, wages, cash, capital, etc., we may state the 
 items appearing in the different columns as shown here- 
 with. 
 
 To summarize w^hat has thus been said of the balance 
 sheet in general, we may repeat the definition furnished 
 by Mr. George Lisle to the effect that ''The balance sheet 
 may ... be defined as a statement of the liabilities 
 
THE PRINCIPLES OF ACCOUNTINa 167 
 
 of a concern (credit balances as taken from the ledger) 
 including the capital, reserve, and unappropriated profit, 
 on the one side, and the assets of the concern (debit bal- 
 ances as taken from the ledger) including any deficiency, 
 on the other. It thus appears that the real difference 
 between the profit and loss account and the balance sheet 
 is that whereas the former is intended to show the course 
 of developments during a given period, the balance sheet 
 shows the exact position at a given moment." 
 
 Form of Balance Sheet. 
 
 While in a small business it may be proper and desir- 
 able to list practically all the assets and all the liabilities 
 upon the balance sheet, this becomes neither practicable 
 nor desirable as soon as the business is somewhat devel- 
 oped. When it is seen to be impossible to list all the as- 
 sets and liabilities separately b}^ reason of the fact tliat 
 they are so numerous, the question arises how the assets 
 and liabilities should be presented — that is to say, how 
 they should be grouped for the purpose of convenient 
 combination so as to show what the concern has actually 
 been doing, in an abbreviated form. In the small busi- 
 ness, the listing will usually discriminate simply between 
 such items as "open" or "personal" accounts which will 
 be presented as a lumj) sum, showing what is due upon 
 open account to the business — cash in hand and in bank, 
 bills receivable, goods on hand, and real estate — on the 
 assets side. On the liabilities side, it will distinguish be- 
 tween the open accounts which are payable to others, pre- 
 senting what the firm owes to individuals or corporations, 
 the amount of bills payable which the firm has outstand- 
 ing, its liability for the capital put in by stockholders and 
 for profits also payable to stockholders. Such groupings 
 are sufficiently simple, and depend merely upon a recog- 
 nition of the distinction between different kinds of prop- 
 erty. A difficulty, however, is encountered as soon as the 
 
168 HENRY PARKER WILLIS 
 
 business becomes more complex and as soon as questions 
 of accrued assets and liabilities have to be taken into ac- 
 count. Then the questions both of classification and of 
 arrangement arise. In the case of accrued assets, for ex- 
 ample, such as interest which is due but has not been paid 
 or of accrued liabilities such as interest ultimately due 
 to others but not yet payable, the question of correct rep- 
 resentation may be difficult. The balance sheet should 
 be made up from the ledger and if that be done, it cannot 
 be more inclusive or more truthful than the ledger. It 
 is limited to the accounting set forth in the ledger. 
 Unless accrued assets and liabilities are shown in the 
 ledger they cannot properly appear in the balance sheet, 
 except perhaps as a subsequent notation or memorandum 
 indicating what the concern knows it is liable for or has 
 coming due to it. So with depreciation, it will be difficult 
 to represent properly the status of the capital assets un- 
 less a due allowance has been made in the accounting 
 scheme for depreciation, so that the results as there duly 
 set forth can be taken up on the balance sheet. Suppos- 
 ing that due allowance has been made, however, for these 
 various elements affecting the position of the concern in 
 the accounting, the balance sheet will be merely a repre- 
 sentation of them. It is worth noting at this point that, 
 according to the accounting treatment which is adopted 
 in the ledger, given items may appear either on one side 
 or on the other. Depreciation, for example, may be found 
 in the balance sheet as an asset. This will be the case in 
 the event that a given sum of money has simply been set 
 aside or invested for the purpose of offsetting deprecia- 
 tion in plant, real estate, fixtures, etc., or it may appear 
 both on the assets and liabilities sides as will be the case 
 in the event that the fund set aside is invested as a safe- 
 guard without correspondingly reducing the book value 
 of the assets, so that it is considered necessary to repre- 
 sent a liability therefor on the liabilities side in the form 
 
THE PRINCIPLES OF ACCOUNTING 169 
 
 of surplus, this being practically analogous to an addition 
 to capital. Or depreciation may simply appear as a lia- 
 bility, as will be the case if a given sum is written off from 
 the net profit and set aside for the purpose of offsetting 
 the wasting of assets without dissociating this fund from 
 other assets, it being left simply as an element of wealth 
 in the hands of the business itself. The same thing is like- 
 wise true of other funds of the same kind, such as funds 
 set aside for insurance and the like. It may be said then 
 that the precise form of the balance sheet — that is to say, 
 the actual elements counted as assets or liabilities, the 
 inelusiveness of the sheet, its accuracy, etc., depends al- 
 most entirely upon the system of accounting that has been 
 pursued.* 
 
 Grouping the Items. 
 
 But when the actual items of assets and liabilities have 
 been designated in the way referred to, there still remains 
 the question of grouping them. This grouping may fol- 
 low any one of a number of different methods. The one 
 generally preferred is the so-called *' standard form of bal- 
 ance sheet" which Mr. Dickinsonf has described as fol- 
 lows: "The standard form of balance sheet . . . divides 
 the assets into three classes, namely: Capital, represent- 
 ing the fixed investment in the property; current, repre- 
 senting the assets which are being turned over and con- 
 verted into a different form day by day; and deferred, 
 representing expenses incurred in advance for some suc- 
 ceeding period; and to these three is frequently added a 
 fourth representing the assets held for special funds, which 
 may have been set aside out of profits or otherwise for 
 specific purposes. On the liabilities side a similar classi- 
 fication prevails, viz: Capital liabilities, representing the 
 capital stock and funded debt which have been contrib- 
 
 * See citation from Mr. Cole, given on p. 94 foregoing, 
 t Accounting Practice and Procedure, p. 16. 
 
170 
 
 HENRY PARKER WILLIS 
 
 uted and remain fixed, at any rate for a niunber of years; 
 current liabilities, including floating debt, wliicli have to 
 be paid off in the ordinary course of business from day 
 to day; special funds set aside for various purposes, such 
 as depreciation, sinking fund, etc.; and, finally, surplus 
 or profit and loss account, representing the accumulation 
 of undistributed profits. This form is that most common- 
 ly adopted here, each of the principal headings being again 
 divided into such sub-accounts as may be desired." This 
 may be illustrated by representing in outline a standard 
 form of railroad balance sheet in the shape presented by 
 Mr. Cole* as follows: 
 
 FORM OF RAILROAD BALANCE SHEET. 
 
 Capital Assets — 
 
 Cost of road. 
 
 Stocks and bonds, 
 
 Sinking fund, 
 Available Assets — 
 
 Accounts receivable, 
 
 Due from other roads, 
 
 Supplies, 
 
 Cash, 
 Accrued Assets — 
 
 Interest, 
 
 Contingent Assets — 
 Suspense Account, 
 
 Capital Liabilities — 
 Capital stock, 
 Funded debt, 
 Sinking fund, _ 
 
 Current Liabilities — 
 Bilk payable, 
 Accounts payable, 
 Due other roads. 
 Claims audited. 
 
 Accrued Liabilities — 
 Rentals, 
 Interest, 
 
 Profit and Loss, 
 
 Contingent Liabilities — 
 Guaranteed bonds of sub- 
 sidiary roads, | 
 
 This division of the balance sheet is not that which is 
 adopted in England, where accounting practice is care- 
 fully regulated by law and where the standard form of 
 balance sheet is entirely different in certain respects from 
 that which has been indicated above. In the English form 
 each class of asset is set forth by itself in the balance sheet 
 in an order which is supposed to follow the ease of liquida- 
 tion. Thus the fixed assets are stated first, then those 
 which are more easily realizable follow in their order^ while 
 
 * Accounts, p. 177, 
 
THE PRINCIPLES OF ACCOUNTING 171 
 
 cash comes last. So, on the liabilities side, the liabilities 
 that are most remote in their character, such as capital, 
 are stated first and are then followed by the others in the 
 order of immediateness, those last mentioned being the 
 ones that are payable at once. There is no special object 
 to be gained in discussing the relative values of these va- 
 rious kinds of balance sheet. The important thing is to 
 have the balance sheet arranged upon a definite principle 
 with the various groups in accordance therewith. For 
 ease of convenience in quickly understanding the position 
 of the concern from the standpoint of immediate solvency, 
 the English form is probably the more desirable of the 
 two forms just indicated, while from the standpoint of 
 ultimate analysis the American form may in some respects 
 be preferable. It is worth while to note in this connec- 
 tion the form of statement which is prescribed for national 
 banks reporting to the United States Government. This 
 is the outcome of very careful legislation and of years of 
 experience with a particular class of institutions whose 
 business has been carefully studied and is susceptible of 
 very close analysis. The form of Assets and Liabilities 
 Statement adopted by the Government and made compul- 
 sory upon the national banks, is shown on page 172. 
 
 Examination of this statement of resources and liabili- 
 ties shows that in a rough general way the order of liquid- 
 ity is followed in the statement. For example, under the 
 head of liabilities the capital items — capital, surplus and 
 undivided profits — are first mentioned. Then are enu- 
 merated the demand liabilities mentioning first the bank 
 notes outstanding, then the sums due to national and state 
 banks, trust companies, etc., the sums payable on sight 
 as dividends already declared, and then the deposits of 
 various kinds. Up to this point, the order of arrangement 
 has distinctly been that of the relative immediateness of 
 the liability involved by the different items. At the end 
 of the classification are given several captions which have 
 
172 
 
 HENRY PARKER WILLIS 
 
 NATIONAL BANK STATEMENT. 
 
 Resources. 
 
 Loans and discounts 
 
 Overdrafts 
 
 U. S. Bonds to secure cir- 
 culation 
 
 U. S. Bonds to secure U. 
 S. deposits 
 
 Other bonds to secure U. 
 S. deposits 
 
 U. S. Bonds on hand 
 
 Premiums on U. S. Bonds 
 
 Bonds, securities, etc 
 
 Banking house, furniture, 
 and fixtures 
 
 Other real estate owned.. 
 
 Due from national banks 
 (not reserve agents) . . . 
 
 Due from state banks and 
 bankers, trust com- 
 panies, etc 
 
 Due from approved re- 
 serve agents 
 
 Checks and other cash 
 items _. . . 
 
 Exchanges for clearing 
 house • • • • 
 
 Bills of other national 
 banks 
 
 Fractional currency, nick- 
 els, and cents 
 
 Specie 
 
 Legal-tender notes 
 
 Five per cent redemption 
 fund 
 
 Due from Treasurer U. S. 
 other than 5 per cent 
 fund 
 
 Total 
 
 Liabilities. 
 
 Capital stock paid in 
 
 Surplus fund 
 
 Undivided profits, less ex- 
 penses and taxes 
 
 National-bank notes out- 
 standing 
 
 State-bank notes out- 
 standing 
 
 Due , to national banks 
 (not reserve agents) . . . 
 
 Due to state banks and 
 bankers 
 
 Due to trust companies 
 and savings banks 
 
 Due to approved reserve 
 agents 
 
 Dividends unpaid 
 
 Individual deposits 
 
 U. S. deposits 
 
 Deposits of U. S. disburs- 
 ing officers 
 
 Bonds borrowed 
 
 Notes and bills redis- 
 counted 
 
 Bills payable 
 
 Reserved for taxes .... 
 
 Liabilities other than 
 those above stated... 
 
 Total 
 
 been placed last notwithstanding that they do not repre- 
 sent immediately maturing liabilities. On the resources 
 or assets side, is found the same general order of group- 
 ing, the classification followed being in the main that of 
 immediateness of realization or availability, although there 
 are one or two violations in this order of statement as is 
 seen in the entering of banking house and real estate lower 
 down in the assets column than the securities o^Tied. This, 
 however, is for a special reason connected with the arrange- 
 
THE PRINCIPLES OF ACCOUNTING 173 
 
 ment of the national bank report which need not be con- 
 sidered here. 
 
 Interpretation of Balance Sheet. 
 
 From what has been said it will be inferred that tfie 
 balance sheet is the essential guide of the individual who 
 wishes to form a general idea of the condition of the busi- 
 ness at any moment. We have indicated some of the main 
 considerations governing the correct statement of the con- 
 dition of a business upon the balance sheet. It should 
 be remembered, however, that, as already stated, the bal- 
 ance sheet is intended to represent the condition existing 
 at any particular moment, while the profit and loss ac- 
 count shows the process by which the existing condition 
 has been arrived at. It is frequently more important for 
 the prospective buyer of a business or of a part of it to 
 know what the general direction of the business has been 
 over a period of past time than to know exactly what con- 
 dition it is in at the moment. Of course he wants to know 
 the latter, but no matter how sound the assets may be 
 the buyer will not want to take them over unless he thinks 
 there is a probability that they will increase in value or 
 that he will have an opportunity of making profits. He 
 cannot correctly interpret the balance sheet, therefore, if 
 he has only one. He must have that for the last preceding 
 fiscal period and perhaps others for earlier periods. With 
 these he is in a position to make a comparison of the tend- 
 encies of the business over a series of past years and to 
 form his own idea of the reasons which have put the con- 
 cern into its existing position. The basis of such an in- 
 terpretation, however, will have to be an exact compara- 
 bility between the classifications of the balance sheet. 
 Uniformity in the methods of making up the sheet must 
 therefore be maintained, and there can be no question as 
 to the items which go to make up a given grouping of as- 
 sets or liabilities if an accurate comparison is to be insti- 
 
174 HENRY PARKER WILLIS 
 
 tuted. In cases where a necessary regrouping of items 
 has occurred, this can be tolerated only upon condition 
 that there is a most careful explanation of the reason for 
 it and the effect it has had in changing the showing made 
 in the sheet. Otherwise comparisons designed to show the 
 growth of business are without foundation. Supposing, 
 however, that uniformity has thus been observed, the ques- 
 tion of judging of the balance sheet and what it shows 
 still remains, and is to the investor and business man a 
 most important matter. It should be stated, however, that 
 the considerations which must govern, in judging the bal- 
 ance sheet and its meaning, are largely those of business 
 experience and are not primarily those of accounting. The 
 judging of the balance sheet, however, must be conducted 
 upon fundamental principles of accounting which apply to 
 all balance sheets. 
 
 This process of interpretation is essentially that of esti- 
 mating whether the business has passed through a process 
 of normal growth and development or whether its history 
 presents features of abnormal expansion or of abnormal 
 under-development. While, as above remarked, every par- 
 ticular class of business has its own criteria for judging 
 of these matters, certain basic propositions of accounting 
 apply. First of all, the student of the balance sheet wants 
 to know whether the concern is making a normal profit. 
 His balance sheet, if correctly made up, shows him the 
 total capital engaged in the business, whether this be in 
 the form of an actual investment originally made with 
 the use of the capital funds contributed at the start or 
 whether it be in the form of subsequent additions to capi- 
 tal put in out of profits. It shows, of course, whether the 
 business has more capital stock outstanding than what 
 corresponds to the actual worth of its capital assets, or 
 whether it is under-capitalized by reason of the fact that 
 capital assets exceed in value the nominal amount of cap- 
 ital stock outstanding. All of this depends upon whether 
 
THE PRINCIPLES OP ACCOUNTINa 175 
 
 correct valuations have or have not been made, but, as- 
 suming these to have been made in the first place, the 
 materials for judgment are afforded as indicated. The 
 balance sheet will also show whether the concern has been 
 working too largely upon a credit basis. It will show this 
 through the bills receivable and payable accounts as com- 
 pared with cash in bank. A knowledge of practice in the 
 particular branch of business which is under consideration 
 affords the basis for judging whether the line of credit 
 extended and obtained is too great and whether therefore 
 bad judgment has been shown in not getting to a more 
 nearly cash payment basis. From a complete balance 
 sheet, an idea of the rate of turn-over of capital can be 
 obtained, and this will give some light upon the question 
 whether the volume of business is such as to warrant the 
 making of better profits in the future under a more skilled 
 management, or whether the existing management has 
 done as well as could have been expected with the given 
 turn-over of capital. The same considerations will also 
 throw light upon the question whether too large a volume 
 of fixed assets is or is not employed, considering the na- 
 ture of the business. All of these elements in the problem 
 of judging the balance sheet are dependent upon knowl- 
 edge of the business, as well as correct statement of the 
 accounting situation, but the latter is essential to the ex- 
 ercise of the business knowledge referred to. 
 
 Capital and Revenue Items. 
 
 In making a judgment of the kind already referred 
 to in the case of any business which employs a large fixed 
 capital, decided difficulty is, however, encountered by 
 reason of the fact that it is not easy for the reader of the 
 balance sheet to form an idea exactly how far the expendi- 
 tures of the concern (and its incomes as well) are due to 
 capital and how far to revenue. At an earlier point (see 
 p. 95 foregoing)' reference has been made to some diffi.- 
 
176 HENRY PARKER WILLIS 
 
 culties in deciding initially whether a given expenditure 
 has been made for the purpose of increasing capital or 
 whether it has been made for the mere purpose of main- 
 taining it or repairing the results of accident or immediate 
 wear and tear. It is much harder in the case of the bal- 
 ance sheet to form an opinion on this subject and, there- 
 fore, in some cases it is deemed best to adopt what is called 
 the "double account system," the object of which is that 
 of segregating items of income and expenditure relating 
 to capital and items of income and expenditure relating 
 distinctly to income or profit. The principle of the double 
 account form of balance sheet may be briefly described. 
 The object in view is to show how much capital has been 
 originally obtained from the stockholders or partners, how 
 much has been put into fixed forms or capital assets, how 
 much has been retained as floating capital for the pur- 
 pose of running the plant and thereby making a profit. 
 In other words it is endeavored to discriminate between 
 the amount actually tied up in a plant and the amount 
 kept in a fluid form for the purpose of carrying on busi- 
 ness in the narrow sense of the term. In conducting the 
 concern the effort is made in every case to discriminate 
 carefully betw^een classes of receipts recognizing all funds 
 received from stockholders, bondholders, etc., as capital re- 
 ceipts, and crediting them to capital account, while other 
 receipts are those that come in the course of the operation 
 of the business and are the fund from which net profits 
 are to be withdrawn after deduction of running expenses 
 has been made. So also it is sought to discriminate care- 
 fully between expenditures on capital account and expendi- 
 tures on running account. The outlays on capital account 
 are those which are made by expending the cash capital 
 for actual fixed forms of assets, such as machinery, plant, 
 etc. Outlays on running expenses, salaries, repairs, etc., 
 are revenue expenditures and as such go to profit and loss 
 account (see p. 163 foregoing for statement of principles 
 
THE PRINCIPLES OP ACCOUNTING- 177 
 
 upon which to discriminate between assets and liabilities, 
 losses and gains). It is clear from what has been said 
 that in managing the accounts in the way just indicated 
 it is desirable to refrain from ''writing down" or "writing 
 off" the assets for the period and to state everything at 
 the original cost value. In order to provide for deprecia- 
 tion, profit and loss will be debited with the amount that 
 it has been determined to set aside and depreciation fund 
 account will be credited. In this case depreciation fund 
 wall appear as a liability on the general balance sheet be- 
 cause it will eventually have to be paid out for the pur- 
 pose of improving the capital assets so as to restore them 
 to their original position or else they will be augmented 
 by the addition of other assets whose cost value is sup- 
 posed to equal the loss on depreciation. Suppose a con- 
 cern which intends to present its affairs on the double ac- 
 count system allows a certain depreciation for the opera- 
 tions of the first year, it can then in starting its account- 
 ing for the second year write off the assets to the extent 
 of the amount allowed for depreciation, either holding spe- 
 cial investments obtained by the use of the depreciation 
 allowance or else it can increase the amount of the capi- 
 tal assets by expending thereon the sum set aside for de- 
 preciation, making the corresponding reduction or writ- 
 ing off the book value of the assets. This double account 
 system is essentially merely a different way of present- 
 ing the operations of the concern in the balance sheet and 
 may be illustrated by a sample form showing the difference 
 between double and single statement based upon one fur- 
 nished by Mr. Dicksee when discussing the subject as af- 
 fected by the English companies' act.* The statement is 
 exhibited in modified form on the following page. 
 
 * Bookkeeping for Accountant Students, pp. 246-9. 
 
 B— VIII— 12 
 
178 
 
 HENRY PARKER WILLIS 
 
 Single Account System. 
 THE A. B. COMPANY. 
 
 Balance Sheet June 30, 1910, 
 
 Assets. 
 
 Plant, machinery, leases, etc 
 as- per last statement.... 
 Extensions to da te 
 
 Less depreciatio n 
 
 Stock on hand 
 
 Investments 
 
 Accounts receivable 
 
 Cash in bank and in hand. . . 
 
 Liabilities. 
 
 Par value of capitalj_ 
 
 Capital paid up. 
 Preferred stock, 
 Common stock, _ 
 
 Bonds, 
 Reserve Fund, 
 Current Liabilities, 
 Bills payable, 
 Accounts payable, 
 
 Profit and loss account, 
 
 Double Account System. 
 THE A. B. COMPANY. 
 
 Capital Account for Year Ended June 30, 1910. 
 
 Dr. 
 
 
 
 
 
 
 
 Cr. 
 
 
 Expend- 
 iture to 
 June 30, 
 1909. 
 
 Expended 
 June 30, 
 
 1909-June 
 30, 1910. 
 
 — "o 
 
 
 Receipts 
 
 to 
 June 30, 
 
 1909. 
 
 Received 
 
 June 30, 
 
 1909-June 
 
 30, 1910. 
 
 Total 
 Receipts 
 to June 
 30, 1910. 
 
 To Leases, 
 " Real Estate, 
 " Machinery, 
 
 
 
 
 By Preferred Stock, 
 " Common Stock, 
 " Bonds, 
 
 
 
 
 " Balance of Cap- 
 ital Account, 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 General Balance Sheet, June 30, 1910. 
 
 Assets. 
 
 Stock on Hand, 
 Investments, 
 Accounts Rec'ble, 
 Cash in bank and in 
 hand. 
 
 
 Liabilities. 
 
 Capital Account bal- 
 ance, 
 
 Reserve Fund, 
 
 Depreciation Fund, 
 
 Current Liabilities, 
 Bills payable, 
 Accounts payable, 
 
 Profit and Loss Ac- 
 count, 
 
 
 
 
 
CIPLES OF ACCOUNTING 179 
 
 There is also submitted a sample of the regular rail- 
 way balance sheet required of American railroads by the 
 Interstate Commerce Commission and following in some 
 respects the same line as that which has been made com- 
 pulsory for use by certain classes of concerns under the 
 English companies' act as above stated (see p. 176). It 
 is clear that where but little fixed capital is employed, 
 the adoption of the double account system is not at all 
 necessary or perhaps desirable. The English companies' 
 acts make it compulsoiy for certain classes of railroad 
 and street railway companies and for certain classes of 
 gas companies. In general, however, it is a suitable way 
 of presenting the facts in the case of all concerns which 
 have the larger part of their capital invested in permanent 
 or fixed assets. This would include public service corpora- 
 tions of many kinds, including railways, gas, water, elec- 
 tric light, telegraph and telephone companies, and in addi- 
 tion it would include analogous concerns of a private char- 
 acter such as mining businesses and others having a very 
 large fixed capital investment subject to depreciation. The 
 element of depreciation becomes less and less important 
 and the change in the value of capital assets less and less 
 significant as a larger and larger proportion of the cap- 
 ital is used in floating form. For example, in the case 
 of the bank or financial institution there is no field for the 
 use of such a system of accounting as has just been re- 
 feired to, because there, there is no substantial investment 
 in material assets, the capital being employed in the pur- 
 chase and realization of commercial paper, securities, etc. 
 
 Form of General Balance Sheet Statement. 
 
 ASSETS. 
 Property owned as investment : 
 
 I. Physical Property Owned — 
 
 1-A. Road and Equipment to June 30, 1907 — 
 (o) Road. 
 (&) Equipment. 
 1-B. Road and Equipment since June 30, 1907 — 
 
 (a) Road. 
 
 (b) Equipment. 
 
 (c) General Expenditures. 
 
180 HENRY PARKER WILLIS 
 
 II. Securities Owned — 
 
 Z. Securities of Proprietary, Affiliated, and Controlled Companies — 
 Pledged— 
 
 (a) Stocks. 
 
 (b) Funded Debt. 
 
 (c) Miscellaneous. 
 
 3. Securities Issued or Assumed — Pledged — 
 
 (a) Stocks. 
 
 (b) Funded Debt. 
 
 (c) Miscellaneous. 
 
 4. Securities of Proprietary, Affiliated, and Controlled Companies — 
 
 Unpledged — 
 
 (a) Stocks. 
 
 (b) Funded Debt. 
 
 (c) Miscellaneous. 
 
 III. Investments — 
 
 5. Advances to Proprietary, Affiliated, and Controlled Companies for 
 
 Construction, Equipment, and Betterments. 
 
 6. Other Permanent Investments — 
 
 (a) Physical Property. 
 
 (b) Securities. 
 Working Assets : 
 
 7. Cash. , 
 
 8. Marketable Securities — 
 
 A. Securities Issued or Assumed — Unpledged — • 
 (a) 'Stocks. 
 
 (6) Funded Debt. 
 (c) Miscellaneous. 
 
 B. Other Marketable Securities — 
 
 (a) Stocks. 
 
 (b) Funded Debt. 
 
 (c) Miscellaneous. 
 
 9. Loans and Bills Receivable. 
 
 10. Net Traffic, Car Mileage, and Per Diem Balance. 
 
 11. Net Balance Due from Agents and Conductors. 
 
 12. Miscellaneous Accounts Receivable. 
 
 13. Materials and Supphes. 
 
 14. Other Working Assets. 
 Deferred Debit Items : 
 
 15. Advances — 
 
 (a) Advances to Proprietary, Affiliated, and Controlled Companies. 
 
 (b) Working Funds. 
 
 (c) Other Advances. 
 
 16. Insurance Premiums Paid in Advance. 
 
 17. Taxes Paid in Advance. 
 
 18. Discount on Securities Issued — 
 
 (a) Discount on Stock. 
 
 (b) Discount on Funded Debt. 
 
 19. Property Abandoned, Chargeable to Operating Expenses. 
 
 20. Cash and Securities in Sinking and Redemption Funds. 
 
 21. Cash and Securities in Insurance and Other Special Funds. 
 
 22. Cash and Securities in Special Trust Funds. 
 
 23. Items in Suspense. 
 
 Deficit : 
 
 Stock : 
 
 24. Profit and Loss — ^Balance. 
 
 LIABILITIES. 
 
 25. Capital Stock — 
 
 (a) Common Stock. 
 (6) Preferred Stock. 
 (c) Debenture Stock. 
 
 26. Receipts Outstanding for Capital Stock. 
 
THE PRINCIPLES OF ACCOUNTING 181 
 
 27. Stock Liability for Conversion of Outstanding Securities of Constitu- 
 
 ent Companies. 
 
 28. Premium Realized on Capital Stock Sold. 
 Mortgage. Bonded, and Secured Debt: 
 
 29. Funded Debt- 
 Co) Mortgage Bonds. 
 
 (&) Collateral Trust Bonds. 
 
 (c) Plain Bonds, Debentures, and Notes. 
 
 (d) Income Bonds. 
 
 (e) Equipment Trust Obligations. 
 
 (/) Miscellaneous Funded Obligations. 
 
 30. Receipts Outstanding for Funded Debt. 
 
 31. Premium Realized on Funded Debt Sold. 
 
 32. Receivers' Certificates. 
 
 33. Obligations for Advances Received for Construction, Equipment, and 
 
 Betterments. 
 Working Liabilities : 
 
 34. Loans and Bills Payable. 
 
 35. Net Traffic, Car Mileage, and Per Diem Balance. 
 
 36. Audited Vouchers and Wages Unpaid. 
 
 37. Miscellaneous Accounts Payable. 
 
 38. Matured Dividends, Interest, and Rents Unpaid. 
 
 39. Matured Mortgage, Bonded, and Secured Debt Unpaid. 
 
 40. Working Advances Due to Other Companies. 
 
 41. Other Working Liabilities. 
 Accrued Liabilities Not Due : 
 
 42. Dividends Declared and Interest and Rents Accrued, Not Due. 
 
 43. Taxes Accrued, 
 Deferred Credit Items : 
 
 44. Operating Reserves — 
 
 (a) Reserves for Replacement of Property. 
 
 (b) Reserves for Other Purposes. 
 
 45. Liability on Account of Special Trust Funds. 
 
 46. Items in Suspense. 
 Appropriated Surplus : 
 
 47. Surplus Reserves — 
 
 (a) Reserves Invested in Sinking and Redemption Funds. 
 
 (b) Reserves Invested in Insurance and Other Special Funds. 
 
 (c) Reserves Not Specifically Invested. 
 
 48. Additions to Property through Income since June 30, 1907. 
 Free Surplus : 
 
 49. Profit and Loss — Balance. 
 
 Statement of Aifairs. 
 
 The term '^balance sheet" is usually applied to a state- 
 ment of the kind already described relating to the affairs of 
 a solvent company. Supposing, however, that a concern 
 is insolvent or bankrupt, the question of representing its 
 position to the creditors and others arises, and then the 
 problem must be faced whether all that is needed is a 
 plain balance sheet or not. In such a case, it is probable 
 that more details are wanted than those that are afforded 
 by the balance sheet. It is customary, for such conditions, 
 
162 HENRY PARKER WILLIS 
 
 to draw up what is called a *' statement of affairs." This 
 statement of affairs lists the liabilities in substantially the 
 same way as would be done on a balance sheet except that 
 now the effort is to indicate also the relative values of the 
 liabilities and the relative degrees of their urgency. It 
 may be shown, for example, whether they are actual lia- 
 bilities or only contingent, whether they are specially se- 
 cured or simply *' general creditors." So also with the 
 assets the listing will endeavor to show whether they are 
 to be classed as unquestionably realizable or doubtful and 
 to indicate whether they are subject to special claims which 
 will reduce their worth or not. The fixed assets will be 
 shown valued upon a basis supposed to indicate what can 
 actually be realized for the purpose of meeting liabilities. 
 It is clear that in such a statement two classes of knowl- 
 edge are called for which may or may not be furnished 
 by the accounting system but which probably will not be. 
 These are (1) the character of the liabilities from the legal 
 standpoint — whether preferred or not, and (2) the prob- 
 able actual value of the assets at immediate sale or dispo- 
 sition. In this case the values assigned to the assets are 
 likely to vary more or less from those which are repre- 
 sented on the books. Moreover, the arrangement of the 
 statement of affairs is different from that likely to be 
 adopted in the balance sheet since it will now be sought 
 to show the amounts of the assets and liabilities respec- 
 tively in their relative rank. A sample of such a state- 
 ment of affairs patterned after that furnished as an illus- 
 tration by Mr. George Lisle* is herewith submitted. (p.l83.) 
 The statement of affairs is thus seen to be a variety 
 of balance sheet, differing from the ordinary type of sheet 
 simply in details, the changes being made because of its 
 special uses in showing the realizable value of assets against 
 specified liabilities. In English accounting it is customary 
 to supplement such a statement of affairs by drawing up 
 
 * Accounting in Theory and Practice. 
 
THE PRINCIPLES OF ACCOUNTING 
 
 183 
 
 Assets. 
 
 JOHN SMITH & CO. 
 
 Statement of Affairs, Dec. 31, 1910. 
 
 Liabilities. 
 
 is2 
 
 Cash 
 
 On' hand 
 
 In bank . ... ..... 
 
 Goods — 
 Customers Accts., 
 
 Good 
 
 Doubtful 
 
 Bad _ 
 
 Machinery, Fixtures, 
 
 etc 
 
 Real Estate, 
 
 Valued at, 
 
 Less Mortgage, 
 
 Investments assign- 
 ed to creditors and 
 deducted from lia- 
 bilities, 
 
 Deduct. 
 Preferred Creditors' 
 
 Claims, 
 Assets Available for 
 
 Division, 
 Among unsecured 
 
 Creditors 
 
 Deficiency of assets. 
 
 Unsecured Creditors 
 Open accounts . . . 
 Loans 
 
 Creditors fully se- 
 cured by mort- 
 gage, deducted 
 from assets. 
 
 Creditors Partially 
 secured, 
 
 Deduct Investments 
 Assigned to Credi- 
 tors 
 
 Contingent Liability 
 for paper discount- 
 ed, etc.. 
 
 Preferred Claims, 
 Taxes, 
 Wages, 
 Rent, 
 
 Deducted from 
 Assets, 
 
 what is called a "deficiency account." The deficienc}" ac- 
 count is intended to show the summarized results which 
 are generally indicated in the statement of affairs. The 
 credit entries are those which usually appear in capital 
 
184 
 
 HENRY PARKER WILLIS 
 
 account — the original capital and the subsequent profits 
 realized in succeeding fiscal periods. In addition to these, 
 is credited the deficiency or shortage which the statement 
 of affairs shows to exist. The debit entries show the va- 
 rious elements of loss, such as shrinkage in the value of 
 assets, the cash drawn out (in the case of a partnership 
 or an individual business), etc. In other words the de- 
 ficiency account shows the original capital put in and the 
 amount subsequently added through clear profit, while it 
 also shows where this capital has gone, that is, how it has 
 been disposed of. The two sides are balanced by an entry 
 giving the deficiency or shortage as already indicated. A 
 sample of such an account based upon and dra^Ti from 
 the statement of affairs already supplied is herewith fur- 
 nished. 
 
 JOHN SMITH & CO. 
 Dr. Deficiency Account. Cr. 
 
 To loss from shrinkage in 
 value of Assets as 
 shown by statement of 
 aflfairs: 
 
 Goods, 
 
 Customers' Accounts, 
 
 Real Estate, 
 
 Machinery, Fixtures, 
 etc., 
 
 Investments, 
 
 To loss by Contingent 
 Liabilities, 
 " Cash drawn: 
 First year 
 Second year. 
 Third year, 
 
 By deficiency as shown in 
 statement of _ affairs, 
 " capital originally con- 
 tributed, 
 " profit shown by 
 books, 
 
 First year. 
 Second year. 
 Third year, 
 
 Xn. ATJDITINa AOT) REPOETINa. 
 
 Object of an Audit. 
 
 In the earlier part of this volume it was pointed out 
 that the accountant as such performs his service, not as 
 
THE PRINCIPLES OF ACCOUNTING 185 
 
 a bookkeeper but as a deviser of systems of accountings 
 that is, for recording business facts. The function of the 
 bookkeeper was there explained as being that of setting 
 down or recording the facts relating to the business as 
 they developed from day to day following out the sys- 
 tem which the accountant had devised and put into op- 
 eration. It was noted that in many cases, the bookkeeper 
 may also be the accountant inasmuch as it may fall to him 
 to devise the system of accounting in the first place or to 
 make innovations in it from time to time as well as to re- 
 cord or to oversee the recording of the daily developments. 
 A different kind of duty, however, falls to the accountant 
 — and probably more frequently than does that of originat- 
 ing a system of accounting. This is what is known as 
 ** auditing." By auditing is meant a process of ascertain- 
 ing (1) whether a given set of accounts or system of ac- 
 counting has been correctly carried out in a formal way — 
 that is to say, whether the entries have been correctly 
 made and the work carried on without fraud; and (2) 
 whether the system of accounts was devised originally in 
 such a way as to furnish the information that is needed 
 in order to give a correct idea of the business or whether 
 it was so crudely framed as not to afford an accurate no- 
 tion of what has actually been done. Both of these duties 
 fall to the accountant and in performing them he is des- 
 ignated as an *' auditor." The duty of auditing accounts 
 is highly important both from the legal and commercial 
 standpoints, and the necessity of having some supervis- 
 ory authority to certify to the results of the accounting is 
 clearly recognized by most large concerns at the present 
 time. Moreover, the duty of auditing accounts is now 
 recognized by both the Federal and state governments in 
 connection with the performance of their work in over- 
 seeing the operations of various public service companies. 
 Thus the Federal Government directs the accounts of na- 
 tional banks, railways, etc., while the state governments 
 
186 HENRY PARKER WILLIS 
 
 direct those of state banks, trust companies, insurance 
 companies, and various others, and not a few municipali- 
 ties do the same with respect to municipal public service 
 corporations. The accountant, when called in for consulta- 
 tion by a commercial concern, may be asked to audit the 
 books of the concern merely to assure the managers that 
 everything has been correctly done in a mechanical way 
 or to detect fraud which is supposed to exist there, or he 
 may be called in not because the concern thinks there has 
 been fraud or error but because it knows there has not 
 and it wants the accountant to certify to the facts in the 
 case. Such certification is growing more and more neces- 
 sary as an element in the granting of commercial credit. 
 Banks and other financial institutions, before granting a 
 loan, ask for a statement or audit carried on by a certified 
 public accountant in order that they may be assured that 
 the business is in exactly the position it claims to be. If 
 a favorable showing is made the bank will feel safe in 
 making a loan to the concern; otherwise not. Thus the 
 function of auditing has a most important financial side. 
 So also, an executor or trustee may ask to have his ac- 
 counts audited, or may be required to have them audited 
 prior to his being released from the responsibilities of his 
 office. In all these ways, auditing involves the practical 
 application of the principles of accountancy and has its 
 relations to commerce, finance, and legal control. 
 
 CHecking tHe Accounts. 
 
 As we have seen, the primary function of the audit 
 is simply that of ascertaining that the system of accounts 
 originally prescribed or embarked upon has been lived up 
 to and carried out on the basis and with the intent origin- 
 ally adopted. This evidently involves two kinds of work — 
 (1) the examination of the entries to make sure that they 
 are correct, and (2^ the examination of the other data 
 available to show that the entries were warranted — that 
 
THE PRINCIPLES OP ACCOUNTING 187 
 
 is to say, to show that the transactions represented actually 
 occurred. The latter point may be considered first. This 
 essentially consists in a checking over of the plant, prop- 
 erty, etc., to see that it is as stated. Vouchers for pay- 
 ments made, contracts showing what the concern is en- 
 gaged upon, commercial paper showing the nature of its 
 investments, checks evidencing the making of payments, 
 may be examined and verified. In the examination of a 
 bank, for instance, the examiner will go through the cash 
 to see that it is as claimed, will glance through the com- 
 mercial paper to see that that is as stated, and will prob- 
 ably communicate with the correspondents of the bank 
 (other banks) in order to ascertain from them the amount 
 standing upon their books to the credit of the bank which 
 he is examining. In the case of the business firm, he may 
 look over the plant in a general way, or if very careful 
 work is needed he may secure the services of an expert 
 who does this for him and certifies the items, values, etc. 
 In the case of the ordinary business firm, the auditor will 
 want to assure himself that the cash on hand and in bank 
 is as represented and that the assets or goods on hand 
 are as indicated and that bills payable and receivable are 
 as stated. Supposing that everything is correct in the way 
 of vouchers, property on hand, commercial paper, etc., the 
 auditor's duty in checking up the accounts may be con- 
 sidered. From this it is not to be inferred that the vouch- 
 ers and other documents are examined and verified first, 
 before checking up the books, although they may be, or 
 the verification may be made in connection with the ex- 
 amination of the books. When, however, the task of check- 
 ing up is begun, the auditor cannot of course go through 
 all of the entries to see item by item that the several en- 
 tries are correct. He will endeavor to make sure funda- 
 mentally that the bank book (written up by the bank) 
 corresponds with the bank account as given in the ledger, 
 and that the cash book corresponds as nearly as can be 
 
188 HENRY PARKER WILLIS 
 
 ascertained with the bank showing, or where cash has been 
 paid out on voucher that it corresponds with the vouchers 
 available. He will endeavor to ascertain whether the sub- 
 ordinate books such as invoice book, day book, etc., corre- 
 spond with the entries in ledger accounts, testing sample 
 entries and verifying the accounts showing fixed assets 
 and goods so far as possible by comparison with the sub- 
 ordinate books. Profit and loss account will be examined 
 with particular care and each item in it checked back 
 through the various accounts in which it figures. The 
 same will be done with the balance sheet, in order to make 
 sure that that is likewise as represented. If this has been 
 done and if the principal outlay accounts, such as wages, 
 etc., have been tested by comparing the entries with the 
 subordinate and original records on which they depend, 
 the auditor will probably have been able to form a toler- 
 ably correct idea of the records of the business as such. 
 Just how thorough this part of the examination should 
 or must be is not a matter which can be expressly stated. 
 It is a matter for agreement between the parties to the 
 audit, and the degree of thoroughness to be had in check- 
 ing up the mere mechanical records of the business will 
 depend very much upon the extent to which the auditor 
 is given time, either personally or through others, to test 
 the various records. Although he can ascertain in the 
 ways just indicated the general correctness of the records 
 it is entirely possible for a skilful man to commit frauds 
 and to cover them up by fraudulent entries which the 
 auditor cannot ordinarily detect except by going over the 
 work in great detail. For example, the personal ledger 
 of a large concern or the depositors' ledger of a bank may 
 be made the medium of a fraud which is practically im- 
 possible of detection in the ordinary audit. If A is a de- 
 positor at bank I and brings $100 in funds to the bank, 
 the teller who receives it will enter it in his pass book 
 as $100. The depositor will look at the entry and go away 
 
THE PRINCIPLES OF ACCOUNTING 189 
 
 satisfied. If the teller wishes to defraud, he may enter 
 the customer's account with $50 only, making the corre- 
 sponding entry in cash and keeping the extra $50. If the 
 customer is keeping a substantial balance at the bank this 
 may be perfectly safe from the immediate standpoint. The 
 auditor, going over the books, will have no way of know- 
 ing that this is not a correct entry even if he should go 
 through .the depositors' ledger. He could assure himself 
 only by calling in the pass books and comparing them with 
 the accounts — a process rarely resorted to. The frequency 
 of bank frauds shows that the auditing process by no 
 means always attains the end of detecting fraud and the 
 same is true in other classes of business. Such frauds, 
 however, are likely to be uncovered at almost any time 
 through some circumstance that is not foreseen and that 
 arouses the auditor's suspicions as to the correctness of 
 the work he has been asked to supervise. Regularity in 
 audits, therefore, tends strongly to the avoidance of fraud. 
 
 Protection Against Fraud. 
 
 With a view to protecting itself against fraud the well- 
 organized firm usually adopts certain safeguards or regu- 
 lations regarding the conduct of its accounting. The 
 au'ditors when going over the accounts naturally become 
 familiar, early in the process, with the nature of such safe- 
 guards and are thereby saved from the necessity of doing 
 work designed to test matters that have already been 
 sufficiently taken care of through the office regulations. 
 Some of the obvious rules that are ordinarily adopted for 
 the sake of protecting the concern and facilitating audits 
 are those of (1) making complete separation between the 
 keeping and handling of the cash and the conduct of the 
 personal accounts and ledgers; (2) the regular payment 
 into the bank of all cash each day and the making of pay- 
 ments to creditors by check only; (3) the requiring of 
 actual vouchers for all cash pajnnents not made by check; 
 
190 HENRY PARKER WILLIS 
 
 (4) the adoption of some system for certifying the cor- 
 rectness of invoices representing goods shipped; and (5) 
 the frequent changing of employes in charge of various 
 branches of the work in order that each man may have 
 an opportunity of testing or observing the work of other 
 men and may be deprived of the opportunity of commit- 
 ting fraud and covering it up by continuous bookkeeping 
 entries designed for that purpose either individually or 
 jointly with others. While of course the fact that such 
 precautions have been taken and that, so far as possible, 
 the business itself has protected itself against fraud will 
 tend to reassure the mind of the examiner of accounts 
 who is called in, the mere superficial existence of the de- 
 sirable regulations does not mean that they have been lived 
 up to. Also the auditor may observe conditions which will 
 in his judgment make it necessary for him to disregard 
 the regulations thus apparently set in force and to con- 
 duct his examination with exactly the same degree of 
 thoroughness that he would have employed had he not 
 been informed of the existence of the system of protec- 
 tion in the office. In fact, as a rule, the auditor will find 
 it desirable to assure himself that such a system of pro- 
 tection has really been kept in rigid operation, since in 
 many places the fact that the system exists will be regarded 
 by careless managers as exempting them from the neces- 
 sity of exercising the same care that they otherwise would 
 have taken. Where a system for the prevention of fraud 
 has, however, been in operation along the lines already 
 indicated, it is not a difficult matter for the auditor to see 
 whether it has in the main been effectively applied or not. 
 In order to guard against the danger of fraud in connec- 
 tion with the audit itself, the auditor should not allow the 
 mechanical operations of testing the accounts to be car- 
 ried on by the employes who have been responsible for 
 them. This point is not always observed, particularly in 
 connection with the auditing of the accounts of corpora- 
 
THE PRINCIPLES OP ACCOUNTING 191 
 
 tions which are subject to public control and where the 
 mere mechanical labor of going through the books is great. 
 In the case of the national bank examinations, for example, 
 it has frequently been found that the examiner was in the 
 habit of calling upon the clerks themselves to make out 
 statements concerning their own operations. Of course 
 this gave them the chance, which in some cases was availed 
 of, to protect themselves by providing against the recog- 
 nition of their errors, furnishing such figures to the auditor 
 or examiner as were necessary for their own purposes. 
 
 Responsibilities of Auditor. 
 
 The responsibilities of an auditor may be said to be 
 both legal and commercial. Under the English companies' 
 act, as well as under the decisions of the English courts, 
 the functions of the auditor have been very carefully de- 
 fined from the legal standpoint and his responsibilities 
 have been marked out. Somewhat the same has been 
 done by legislation in the United States. An aud- 
 itor's certificate that he has examined the books and 
 accounts of the concern and has found its balance 
 sheet to be accurate is accepted as a definite assu- 
 rance that all is correct and on this depends his pro- 
 fessional reputation. A wilful certification to what he 
 knows to be untrue may be disastrous to innocent in- 
 vestors, creditors or others and where it can be proved is 
 of course an act subject to severe punishment on the ground 
 of fraud. In some English cases where the auditor has 
 been found to be guilty of negligence, he has been held 
 jointly liable with the directors for moneys lost or im- 
 properly paid as the result of such negligence. The audit- 
 or may have no property that is sufficient to meet the lia- 
 bility thus incurred, which may be very large, and the 
 point may thus be of academic rather than of practical 
 interest. The professional reputation of the well-estab- 
 lished accountant, however, being at stake whenever he 
 
192 HENRY PARKER WILLIS 
 
 makes an audit, there is sufficient inducement to warrant 
 his doing what he can to secure a correct showing and any; 
 improper collusion between the auditor and the concern 
 for which he is working would, when demonstrated, en- 
 tirely destroy the value of his future certificates of audit, 
 as well as inflict upon him the loss of his professional 
 standing and in some cases legal penalties as well. 
 
 When an audit has been completed, it is customary 
 for the auditor to make out and sign a certificate. This 
 certificate gives the name of the auditor and may simply 
 certify that the balance sheet has been found to be a cor- 
 rect representation of the affairs of the business or it may 
 also certify that the audit has included the inspection of 
 the property, and the ascertainment that the items of 
 property claimed are on hand just as asserted. How ex- 
 tensive the audit shall be and consequently how extensive 
 the certificate can be, is a matter depending upon the 
 scope of the agreement made between the auditor and the 
 concern originally and the work the auditor has been en- 
 gaged to do. The auditor if simply employed to look over 
 the books and report will properly regard it as no part 
 of his duty to explain to the directors what changes should 
 be made in order to put their accounting system upon a 
 suitable basis or what methods should be adopted in order 
 to improve the organization of the business. 
 
 Report on Condition of Business. 
 
 In many cases, however, while the balance sheet is tol- 
 erably correct as a representation of conditions and as 
 showing that the actual accounting has been honestly and 
 accurately carried on, it may appear as the result of the in- 
 quiry that the actual condition of the business as a profit- 
 making concern is not fully exhibited or that there are con- 
 ditions growing out of the organization of the concern or 
 the nature of its competition with others and the like that 
 tend to make the values exhibited by the books nominal 
 
THE PRINCIPLES OF ACCOUNTINa 193 
 
 rather than real. In such cases, if the auditor has been em- 
 ployed in order to ascertain the real worth of the business 
 as a going concern, his duties may broaden out very consid- 
 erably and it may be a part of his responsibility in the larg- 
 er sense of the term to make a report upon the question 
 whether the concern can, as things stand, be expected to 
 go on doing the same in the future as it has in the past. 
 The inquiry is now developed into a general discussion 
 of investment and competition, just as the devising of 
 an accounting system in the first place may frequently 
 broaden into a discussion of business organization. Under 
 such conditions the duties of the auditor are those of a 
 business adviser or an adviser on investments, and cannot 
 be exactly defined. Much will depend upon the general 
 judgment of the auditor in such cases and the extent of 
 the confidence reposed in him by the persons who have 
 employed him. This is particularly the case in those in- 
 stances where an auditing firm or auditor has been em- 
 ployed to visit a certain business, investigate it, and find 
 out whether it will be well for a prospective purchaser 
 to share in the enterprise as he perhaps contemplates doing. 
 
 Examples of an Audit. 
 
 The principles which have been laid down in general 
 terms in the foregoing part of this section are, as has been 
 stated, incapable of specific application as definite rules of 
 thumb to any particular business, because of the fact that 
 businesses vary so widely in the details of their accounts, 
 in the number of books which they keep or omit, and in 
 the actual methods of filing vouchers, invoices, and original 
 records of various kinds. In order to illustrate, however, 
 with greater definiteness the actual working of an audit, 
 attention may be given to the methods by which a bank 
 examination is conducted. This is possibly the best illus- 
 tration that can be afforded of the making of a detailed 
 
 audit because, as has already been said, the principles upon 
 B— VIII— la 
 
194 HENRY PARKER WILLIS 
 
 wMch bank accounts must be kept have been set forth 
 with considerable detail in law, and absolute uniformity 
 is required under the national banking act. Somewhat 
 the same is true of the work done imder the direction of 
 the Interstate Commerce Commission in connection with 
 railroad accounts. The bank audit, however, affords the 
 most concise and comprehensible illustration. The auditor 
 who is called upon to make a bank examination will first 
 select a department of the bank with which to start. He 
 will probably begin with the department of the bank in 
 which cash is received by the receiving teller. Here he 
 will actually count the cash and ascertain whether it agrees 
 with the amount indicated in the teller's own record. He 
 will then look over the checks that have been received 
 and the checks that are to be cleared through the clearing 
 house and will ascertain whether they have been prop- 
 erly entered on a clearing-house sheet. He will examine 
 the checks that have been deposited and will compare their 
 amount plus that of the cash and the items held for col- 
 lection on other banks to see that they are equal to the 
 total amount of deposits received for the day. Where the 
 auditor comes periodically to the bank and is more or less 
 familiar with the signatures of depositors, he will bear in 
 mind the question whether all checks seem to be bona 
 fide. The examiner in entering the department of the 
 bank where cash is paid will verify the cash as before and 
 will examine the checks paid during the day on which 
 he makes the examination, ascertaining that the total 
 amount paid is the same as is indicated on the books. He 
 will further find out whether cash on hand plus the amount 
 of checks cashed during the day plus amounts charged to 
 other departments of the bank agrees with the total cash 
 held on the previous day at the end of business. Of course 
 incidentally the items charged to other departments of 
 the bank and the vouchers for currency paid or shipped, 
 etc., will be verified. A similar process will be carried 
 
THE PEINOIPLES OP ACCOUNTING 195 
 
 out in any other departments into whicli tlie bank may- 
 be divided for the purpose of receiving or paying funds; 
 or if the bank is a small institution and its paying and 
 receiving officers are the same, the test will be correspond- 
 ingly modified so as to include the various classes of op- 
 erations performed. The question of payments and re- 
 ceipts of cash and cash items having been considered by 
 the examiner, he may devote his attention to the discounts 
 of the bank. Here the fundamental inquiry will be that 
 of ascertaining whether the record of discounts corre- 
 sponds with the accounts in the general ledger posted there- 
 from; or, if paper has been sent away for the purpose of 
 collection or some similar purpose, it will be necessary to 
 ascertain that the representations made concerning such 
 paper are correct. The auditor will also examine the ques- 
 tion of the adequacy of the security and if he has reason 
 to think that given paper is bad or doubtful he will make 
 a note concerning it. If loans have been made on col- 
 lateral he will verify collateral and, in eases where it is 
 insufficient owing to shrinkage of value, he will so indicate 
 in his report. Passing to the bookkeeping division the 
 work will be more mechanical. Here the task will be that 
 of checking depositors' accounts for a given period with 
 the receiving department's records, and the accounts in 
 which discounts have been entered with the records of the 
 discount department. Similarly the individual depositors' 
 accounts will be checked up in comparison with the sums 
 paid by the paying teller, and depositors' balances will 
 be compared with the showing made in the general ledger. 
 The assets of the bank as represented by securities held 
 will be verified by actual examination of the assets in com- 
 parison with the accounts relating thereto. Then the aud- 
 itor can examine into the assets which are represented 
 by accounts with other banks, with the Federal Treasury, 
 or elsewhere, which can be done by writing direct to the 
 correspondent banks, the Treasury, etc., and receiving back 
 
196 HENRY PARKER WILLIS 
 
 a reply stating the condition of the accounts referred to. 
 By comparing these reports with the figures shown in the 
 corresponding accounts on the books, this phase of the 
 assets is sufficiently dealt with. The examiner is then 
 in position to make out a report to the Comptroller of the 
 Currency who sent him to the bank. This he does on a 
 form specially provided for the purpose with questions and 
 blank spaces for the filling in of all the principal data. 
 A reproduction of such a report is seen on pages 198 to 206, 
 and furnishes a good example of an auditor's report of this 
 kind. What has been said of the problem of bank examina- 
 tion holds equally true of other classes of concerns except 
 that, in the several classes, the problems differ from one an- 
 other because of the different character of the assets and 
 the varying importance assignable to various accounts. All 
 this makes it necessary to vary the degree of stress laid 
 by the auditor upon different phases of the auditing ac- 
 cording to the varying character of the business which 
 he is called in to examine. 
 
 Analyses of Accounts. 
 
 While, as has been said, the auditor's duty may end 
 with merely ascertaining and certifying the correctness of 
 the w^ork done or, beyond this, the truthfulness of the 
 showing made as to assets and liabilities, profits and losses, 
 one or both, the auditor may be asked to do more than this 
 or in connection with his work he may have opportunity 
 or find it necessary to go further than this by analyzing 
 the different accounts that are submitted to him. Such 
 analyses are needed for the purpose of showing what is 
 the composition of a given account — that is to say, what 
 elements have gone into it and from what sources they 
 have been drawn. For example, ''expenses'' may cover a 
 multitude of things including expenses of various legiti- 
 mate kinds and others of a less legitimate character. The 
 analysis will show a grouping of items by classes. That 
 
THE PRINCIPLES OP ACCOUNTINa 197 
 
 is to say, the account may be broken up into a series of 
 groupings or headings. For instance, the expense account, 
 referred to above, may be broken up into different classes 
 of expenses whose totals will be the same as the totals 
 shown in the combined account on the books. This may 
 be a desirable thing for the auditor to undertake for the 
 purpose of testing the accuracy of the statements and es- 
 pecially for ascertaining whether improper entries have 
 been made in the accounts. By summarizing the analyzed 
 results of an extensive account, important inferences may 
 be drawn regarding outlays which are growing dispropor- 
 tionately large or are tending to outrun the capacity of 
 the business or are affording an opportunity for fraud. 
 It is desirable also in such analyses at times to indicate 
 where the different items were drawn from in the sub- 
 ordinate books. Such analyses are frequently made by 
 the auditor for the purpose of ascertaining whether given 
 instructions have been obeyed or given legal requirements 
 have been lived up to in connection with expenditures. 
 As a result of such analyses of extensive and inclusive ac- 
 counts, the auditor is then in position to render a report 
 showing whether the requirements in mind have been ob- 
 served, whether the accounting may not well be changed 
 and systematized, and whether the analyses do not show a 
 necessity for alterations in business practice or in methods 
 of accounting. 
 
 The Auditor^s Report. 
 
 Reference has already been made to the auditor's re- 
 port at the close of his investigation. As will be gathered 
 from what has been said, such a report varies a good deal 
 for different businesses. For every business there will 
 first be g:iven an outline of the time covered and the orders 
 under which the audit was conducted, then the statements 
 which are included and any general remarks about the 
 conditions ascertained. The statements included will cov- 
 
I9d HENRY PARKER WILLIS 
 
 er in tlie case of the ordinary retail establishment balance 
 sheets for the opening and close of the period dealt with, 
 a copy of profit and loss and trading accounts, and lists 
 of bills payable and bills receivable, and frequently ac- 
 counts payable and receivable at the time the audit was 
 concluded. For a manufacturing concern there will be 
 added to these a summary statement of the manufactur- 
 ing account. For a fiduciary officer whose accounts have 
 been audited the exhibits needed as attached statements 
 will be the balance sheets for beginning and end of the 
 time covered, a statement of incomes and outlays, and 
 another of total receipts and payments. To these will be 
 added a careful list of assets, securities owned, etc. Final- 
 ly, the auditor will append a certificate to the effect that 
 he has audited the accounts, books, securities, etc, (omit- 
 ting or adding such items as have not or have been exam- 
 ined), that he has checked up the balance sheet, and that 
 the sheet indicates the true condition of the business as 
 shown by the books. (See p. 192 foregoing.) 
 
 The following reproduction of an examiner's outline of 
 report on condition of a national bank gives an idea of the 
 detailed items, knowledge of which is necessary to an un- 
 derstanding of the exact condition of the institution. 
 
 No. of Bank, 
 
 EXAMINER'S REPORT 
 of the 
 
 Condition of "The " 
 
 Located at , in the County of 
 
 State of 
 
 Examination commenced at o'clock M., on , 190 
 
 Examination closed at o'clock ....M., on , 190 
 
 President , Cashier. 
 
THE PRINCIPLES OP ACCOUNTINa 
 
 199 
 
 Resourcei. 
 
 Amount, 
 
 Liabilities. 
 
 Amount 
 
 1. Loans and Discounts 
 
 
 1. Capital Stock paid In, 
 
 
 (see schedule), 
 
 
 2. Surplus Fund, 
 
 
 2. Overdrafts, 
 
 
 3. Other Undivided Profits, 
 
 
 3. U a Bonds to secure 
 
 
 viz: 
 
 
 Clfpuiatlon ( %), 
 
 
 Discount. % 
 
 
 
 4. U. S. Bonds to secure 
 
 
 Exchange, 
 
 
 
 Deposits ( %), 
 
 
 Interest, 
 
 
 
 6. TJ. S. Bonds on hand 
 
 
 Premiums, 
 
 
 
 6. Preniiuin on U. S. Bonds, 
 
 
 Rents, 
 
 Profit and Lorr, 
 
 
 
 7. Bonds, Securities, etc. 
 (see schedule). 
 
 4. Due to applied Reserve 
 AgentSt viz: 
 
 
 8. Banking House, $ 
 
 
 
 
 Furniture and 
 
 
 
 
 Fi'^turofl 
 
 
 
 
 9. Other Real Estate Owned 
 
 
 
 
 (see schedule). 
 
 
 
 
 10. Due from app'd Reserve 
 
 
 
 
 Agents, viz: 
 
 
 
 
 11. Due from other National 
 
 
 
 
 Banks, 
 
 
 1. Due to other National 
 
 
 12. Due from State Banks, 
 
 
 Banks, 
 
 
 and Bankers, 
 
 
 6. Due to State Banks and 
 
 
 13. Due from Trust Companies 
 
 
 Bankers, 
 
 
 and Savings Banks and 
 
 
 7. Due to Trust Companies 
 
 
 Foreign Exchange, 
 
 
 and Savings Bank and 
 
 
 14. Exchanges for Clearing 
 
 
 Foreign Exchange, 
 
 
 House, 
 
 
 8. Dividends unpaid. 
 
 
 15. Checks on other Banks 
 
 
 9. Individual Deposits, viz: 
 
 
 in same place. 
 
 
 
 
 16. Bills of other National 
 
 
 
 
 Banks, 
 
 
 Subject to 
 
 
 
 17. Uncurrent and Minor Colna, 
 
 
 Check, $ 
 
 
 
 18. Cash Items, 
 
 
 Savings Deposits, 
 
 
 
 JX' 
 
 
 
 
 Demand Cert's, 
 
 
 
 a 
 
 
 
 
 Time Cert's, 
 
 
 
 « 
 
 
 
 
 Certified Checks. 
 
 
 
 K 
 
 Fractional 
 Silver, % 
 
 
 
 r'flfll^iAr'B r?hprk«, 
 
 
 
 s 
 
 
 
 
 
 Silver 
 
 
 
 
 
 o 
 
 Dollars, 
 
 
 
 10. United States Deposits, 
 
 
 1 
 
 Silver 
 
 
 
 11. Deposits of U. S. Disburs- 
 
 
 Certificates, 
 
 
 
 ing Officers, 
 
 
 s 
 
 Gold Coin, 
 
 
 
 
 
 pt; 
 
 Gold 
 
 
 
 
 
 Certificates, 
 
 
 
 13. Circulation 
 
 
 fe 
 
 Legal-Tender 
 
 
 
 received, $ 
 
 
 4> 
 
 Notes, 
 
 
 
 Less on hand 
 
 
 Gold Cert's 
 payable to 
 
 
 
 and returned. 
 
 
 
 S 
 
 
 
 
 order. 
 
 
 
 
 
 ■g 
 
 C. H. Cert'a 
 
 
 
 18. State Bank Circulation 
 
 
 1 
 
 of Dep., 
 
 
 
 outstanding. 
 
 
 
 
 
 14. Notes and Bills redis- 
 
 
 
 
 
 
 counted. 
 
 
 
 
 
 15. Bills payable, 
 
 16. Cash over. 
 
 
 
 
 
 
 
 2C 
 
 . 5% Red'n Fund with 
 Treasurer U. S., 
 
 
 17. Loans held In trust for 
 customers. 
 
 
 21. Other Funds with Treas. 
 
 
 
 
 U. S.. 
 
 
 
 
 22. Current 
 
 
 
 
 Expenses, $ 
 
 
 
 
 Taxes paid. 
 
 
 
 
 Interest paid, 
 23. Cash short. 
 
 1 
 
 
 
 
 
 
 24. Loans made for account 
 
 
 
 
 of customers. 
 
 
 
 
 
 Total, 
 
 
 
 Total. 
 
 
 
 
200 
 
 HBNRY PARKER WILLIS 
 
 Directors. 
 
 No, of Bank, 
 
 No. of 
 Shares 
 Owned. 
 
 Names. 
 
 Post-Offlce 
 Address. 
 
 Liability 
 as Payers 
 
 (individual 
 or firm), 
 including 
 
 overdrafts. 
 
 Liability 
 as Joint 
 Makers. 
 
 Liability 
 as 
 
 Indorsers 
 
 or 
 
 Guarantors 
 
 Occupatlom 
 
 
 
 Total. 
 
 
 
 
 1 
 
 
 
 
 [Ascertain from record book how often directors meet as a board, and whether they 
 authorize or approve loans and discounts at such times; whether they have active discount 
 and examining committees, or leave management entirely to the officers; whether annual 
 meeting of shareholders was held, and whether any director, other officer, clerk, teller, or 
 bookkeeper acted as proxy. Any vacancy in board should be noted. Opposite the name of 
 each director enter full amount of all paper in bank upon which his name (individual or 
 firm) appears as maker, indorser, or guarantor, but where two or more directors are liable 
 on the same paper deduct from the totals the duplicate liabilities, so as to show the net 
 liabilities of all directors.] 
 
 Officers and Employes. 
 
 President, 
 
 Vice-President, 
 
 Cashier, 
 
 Assistant Cashier, 
 
 Teller, 
 
 Bookkieeper, 
 
 Names. 
 
 No. of 
 Shares 
 Owned. 
 
 Liability 
 as Payers 
 
 (Individual 
 or firm), 
 including 
 
 overdrafts. 
 
 Liability 
 
 as 
 Indorsers 
 
 Guarantors 
 
 Salary. 
 
 Bond. 
 
 (If any.) 
 
 Other 
 
 Occupation 
 
 (If any.) 
 
 [Examine official bonds; state form of bonds; whether In force and In whose custody 
 lodged; whether any officer or clerk of the bank is an officer or clerk of any savings bank 
 or other banking institution located in same place; which employe keeps the individual 
 ledger; whether any officer or employe who receives deposits makes entries in the in- 
 dividual ledger; whether the individual ledger bookkeeper sometimes acts as teller; who 
 balances the depositors' pass books, and whether the balances are compared by some one 
 other than the Individual ledger bookkeeper; which employe keeps the general ledger, 
 and who reconciles bank balances.] 
 
THE PRINCIPLES OF ACCOUNTING 
 
 201 
 
 Books and Accounts. 
 
 [Follow Instructions as to verification of accounts and state specifically whether bank 
 uses the daily balance system for Individual ledger accounts; whether the ledgers are 
 properly and promptly posted, and how often they are balanced; how often loans and 
 discounts are verified, and how often accounts with corresponding banks are reconciled.] 
 
 RESOURCES. 
 
 No. of Bank. 
 
 1. Loans and Discounts. 
 
 [The loans and discounts and other securities must be carefully verified and every 
 
 discrepancy noted.] 
 
 A. — On demand, paper with one or more individual or firm names, $ 
 
 B. — On demand, secured by stocks, bonds, and other personal securities, 
 C. — On time, paper with two or more individual or firm names, 
 T>. — On time, single-name paper (one person or firm) without other 
 
 security, 
 E. — On time, secured by stocks, bonds, and other personal securities, 
 F. — On time, secured by real estate mortgages or other liens on realty 
 
 (see schedule). 
 
 Total, 
 Included in the above are — 
 G. — Bad debts, as defined In Section 5204, Revised Statutes (see remarks 
 
 below), 
 H. — Other suspended or overdue paper (see remarks below), 
 
 Total, 
 
 Loans exceeding the limit prescribed by Section 5200 of the Revised Statutes. 
 Overdrafts, if any, are regarded as loans. 
 
 Name of 
 
 Borrower. 
 
 (State value 
 
 of security 
 
 and 
 
 financial 
 
 standing 
 
 of makers 
 
 and indorsers. ) 
 
 Date. 
 
 Enter Full 
 Amount 
 of Loan. 
 
 Name of 
 
 Borrower. 
 
 (State value 
 
 of security 
 
 and 
 
 financial 
 
 standing 
 
 of makers 
 
 and indorsers.) 
 
 Date. 
 
 Enter Full 
 Amount 
 of Loan. 
 
 
 
 
 
 
 
 [Describe the general character of loans and discounts, particularly those reaching^ 
 the limit, other large loans and loans to other national banks, giving date and maturity^ 
 of latter loans; state whether accommodations are well distributed; the financial standing 
 of makers and indorsers; and the current rate of interest obtained. If any director or 
 ofllcer has a large liability as payer or indorser, state whether it comprises direct loans, 
 or strictly commercial or business paper discounted for him, accommodation paper made 
 by others for his use and indorsed by him, or accommodation indorsements, and If the 
 latter, state whether he is loaning the bank's funds on real estate security in this way in 
 his name. Describe also all loans and discounts to corporations or enterprises in which 
 directors and officers are interested. State whether loans are secured by collateral, and, It 
 Bo, its character and value.] 
 
 Suspended or Overdue Paper, including "bad debts" as defined by Section 5204. 
 
 [Describe general condition of such paper, state how secured and how long It haa 
 been In the bank. List only Items on which loss has or will be sustained and state the 
 amount of loss.] 
 
202 HENRY PARKER WILLIS 
 
 RESOURCES— Continued. 
 
 No. of Bank, 
 
 2. Overdrafts. 
 
 [State what amount is unsecured, and whether habitually granted. Overdrafts 
 exceeding limit named In Section 5200 should be classed with Excessive Loans, and 
 unsecured overdrafts which have remained unchanged for six months or longer should be 
 noted. The amount of overdrafts at date of examination should be verified by the examiner, 
 ■who should also compare the amount of overdrafts stated in the bank's last report of 
 condition with the amount shown by Its books at same date, and report any discrepancy 
 discovered.] 
 
 8. Banking House. 
 
 [State whether suitable and convenient; for what other purpose used (If anyl ; and, 
 If owned by bank, whether carried at fair value on books, and whether building is insured; 
 whether vault and safe are good and secure, and used by the bank only; whether furniture 
 and fixtures are worth book value, and whether any savings bank or other banking Institu- 
 tion occupies the same office with the bank under examination.] 
 
 10, 11, and 12. Due from Reserve Agents, Trust Companies, Banks, and 
 Bankers. 
 
 [Verify all balances by correspondence on blanks furnished for this purpose, but 
 forward report promptly without awaiting verification. Any discrepancies which may be 
 disclosed should be reported by letter afterward If they can not be reconciled by the 
 examiner. State whether bank receives Interest on any balances, and at what rate. If 
 any amounts are represented by certificates of deposit issued by other national banks, stite 
 whether they are secured by collaterala. Verify bills in transit, foreign bills, and other 
 Items not in custody of bank, In accordance with Instructions.] 
 
 17. Cash Items. 
 
 [State whether regular; and if overdue paper, memorandum loans, checks, dishonored 
 drafts, expense items, etc., are carried here, briefly describe such items.] 
 
 18. Reserve. 
 
 [State whether reserve (total and in bank) is sufficient at date of examination: the 
 average for thirty days preceding, where practicable, and describe Its general condition 
 since last examination.] 
 
 Are national bank notes separated from the other currency, both as to 
 counter cash and currency in the vault? 
 
 If not, did you separate them at the time of the examination? 
 
 Is an exact daily record kept of the different kinds of money on hand? 
 
THE PRINCIPLES OF ACCOUNTING 
 
 203 
 
 RESOURCES— Continued. 
 
 7. Bonds, Securities, etc. 
 
 No. of Bank. 
 
 Enter number of' 
 shares of stock Name of corpo- 
 face value of, ration Issuing 
 
 bonds, an<i state 
 whether bonds 
 or stocks. 
 
 stocks, bonds, 
 etc. 
 
 Total, 
 
 Amount at 
 
 which carried 
 
 on books. 
 
 Estimated 
 actual mar- 
 ket value. 
 
 State whether taken for 
 "debts previously con- 
 tracted," or otherwise, 
 and if interest or divi- 
 dends are regularly paid, 
 etc. 
 
 9. Other Real Estate Owned. 
 
 Describe property. 
 
 Amount at 
 
 which 
 
 carried 
 
 on books. 
 
 Amount of 
 prior lien 
 
 on 
 
 property. 
 
 If any. 
 
 Estimated 
 actual value 
 of property. 
 
 Date when 
 title was 
 acquired. 
 
 State whether 
 taken for "debts 
 previously con- 
 tracted," or 
 otherwise. 
 
 
 
 
 
 
 
 Total, 
 
 
 
 
 Loans and Discounts secured by Real Estate Mortgages or other liens on realty. 
 
 Give name of 
 
 borrower and 
 
 form of 
 
 collateral. 
 
 Amount 
 of loan. 
 
 Amount 
 of prior 
 
 lien on 
 property. 
 
 If any. 
 
 Estimated 
 
 actual 
 
 value of 
 
 property. 
 
 Date 
 
 when 
 
 security 
 
 was taken. 
 
 State whether 
 taken to secure 
 "debts previous- 
 ly contracted," 
 or otherwise. 
 
 
 
 
 
 
 
 Total, 
 
 
 
 
204 HENRY PARKER WILLIS 
 
 LIABILITIES. 
 
 No. of Bank, 
 
 1. Capital Stock. 
 
 [State whether stock certificate book and stock ledger are properly kept, whether 
 surrendered certificates are properly canceled and attached to stubs, and whether stock 
 certificates are signed in blank. Verify amount of stock outstanding. State also whether 
 the bank owns or holds as collateral for loans any shares of its own stock, and, if so, for 
 what purpose, and give date when taken. In the case of a new bank, ascertain and state 
 whether its capital has been paid In cash, or whether any shareholders' notes have been 
 taken for stock subscriptions.] 
 
 2 and 3. Dividends and Surplus (Sections 5199 and 5204, U. S. Revised Statutes). 
 
 Date of last dividend, Amount, | Carried to Surplus, ( 
 
 Charged oft since last examination: Losses, $ Premium, | 
 
 Decrease of values, | 
 
 [State If any reason is known why the bank should not declare a dividend at th» 
 end of the current dividend period.] 
 
 [Compare the bank's last report of earnings and dividends with the amount of profits 
 shown by its books at same date, and report any discrepancy discovered. Report all profits 
 irregularly carried on individual ledger, in special accounts, or charged off the books.] 
 
 4, 5, and 6. Due to Reserve Agents, Trust Companies, Banks, and Bankers. 
 
 [Verify all balances by correspondence on blanks furnished for this purpose, but 
 forward report promptly without awaiting verification. Any discrepancies which may be 
 disclosed should be reported by letter afterward if they can not be reconciled by the 
 examiner. State whether amounts are due on open account or on demand or time certif- 
 icates of deposit, whether secured by collaterals, and what rate of Interest, If any, is paid.] 
 
 8. Individual Deposits. 
 
 [State whether interest is paid, and, if so, at what rates and to what extent; 
 whether certificates of deposit are irsued for the purpose of borrowing money, and, if so, 
 give list of them, under 13 and 14, showing amount of each certificate, to whom 
 Issued, whether payable on demand or on time, and at what rate of Interest, and whether 
 secured by collaterals of the bank. State whether a proper record of all certificates of 
 deposit issued is regularly kept in a book for that purpose. If certificates of deposit are 
 Issued to other national banks, give full information regarding them. If bank conducts a 
 "savings" department, state the amount of such deposits, with rate of interest paid. If 
 bank holds State, county, municipal, or other balances subject to check, which will, if 
 suddenly withdrawn, seriously reduce Its reserve, state the amounts and rate of Interest 
 paid.] 
 
 13 and 14. Rediscounts and Borrowed Money. 
 
 [Where money is borrowed by rediscounts, on open account, or otherwise, state below 
 •where and when accommodation was procured, the form and amount of obligation, rate of 
 Interest paid, date of maturity, and whether secured by collaterals of the bank. State 
 also whether bank borrows habitually, and whether such liabilities have been authorized 
 by board of directors. If borrowing is from other national banks, give full information 
 concerning- transactions of this character, Including date of issue and maturity.] 
 
 Recapitulation. 
 
 [Wherever it appears that any loss has been sustained or is probable on any item, 
 or that the value has depreciated, enter the book value of such item or items in schedule 
 below, together with estimated probable loss thereon. If no loss is probable, indicate that 
 fact by the word "none." In every report enter in this schedule the amount of surplus and 
 profits on hand at date '>f examination.] 
 
THE PRINCIPLES OF ACCOUNTING 
 
 205 
 
 LIABILITIES— Continued. 
 
 No. of Bank. 
 
 IN ALL CASES WHERE LOSSES ARE ESTIMATED, FURNISH 
 ITEMIZED LIST. 
 
 Resources. 
 
 Book 
 Value. 
 
 Probable 
 Loss. 
 
 Estimated 
 
 Value of 
 
 Assets not 
 
 Shown on 
 
 Books. 
 
 Surplus, Undivided Profits, 
 Etc. 
 
 ''Bad Debts," 
 Other overdue 
 
 paper. 
 Other loans and 
 
 % 
 
 $ 
 
 $ 
 
 Surplus fund. 
 
 Undivided profits. 
 Total, 
 
 Less current ex- 
 penses taxes, 
 etc.. 
 
 Total Surplus 
 and Profits, 
 
 i 
 
 discounts, 
 Overdrafts. 
 Premiums on U. 
 
 S. bonds, 
 Bonds, securities, 
 
 etc.. 
 Banking house, 
 Furniture and 
 
 
 Other real estate, 
 Cash Items, 
 
 
 Total, 
 
 
 
 
 
 General Remarks as to Condition of Bank. 
 
 [State briefly yonr opinion as to the general condition of the bank, and whether its 
 business is prosperous or otherwise, whether ofRcers are capable, prudent, and of good 
 reputation; the management efficient and successful, or otherwise; and grive summary of 
 matters to which special attention shoald be called, using extra sheet if necessary.] 
 
 To thv Comptroller of the Currency, 
 
 WaBbington, D. C. Examiner. 
 
206 
 
 HENRY PARKER WILLIS 
 
 IMPORTANT 
 
 Please answer "yes" or "no" to each 
 of the following questions as to ex- 
 amination of this bank, No 
 
 over your signature. 
 
 Did you count the cash, as Instructed? 
 
 Did you examine and list loans and dis- 
 counts and all collateral held therefor, as 
 Instructed? 
 
 Did you note all loans and discounts to 
 directors and officers, and to enterprises In 
 which they are interested, as instructed? 
 
 Did you examine and list all stocks, se- 
 curities, etc , held by bank, and all real 
 estate and mortgages owned or held by it, 
 and Treasurer's receipt for U. S. Bonds, as 
 ir.Linicted? 
 
 Did you take off or verify a balance of 
 accounts on Individual ledger or ledgers? 
 
 Did you check off last statements re- 
 ceived from corresponding banks and find 
 them correct? 
 
 Did you verify outstanding certificates 
 of deposit, certified checks, and cashier's 
 checks, as Instructed? 
 
 Did you take off balance of stock ledger 
 and examine stock certificate book, as in- 
 structed? 
 
 Did you examine profit and loss and ex- 
 pense accounts, as instructed? 
 
 Did you examine minutes of directors* 
 meetings, discount committee meetings, and 
 shareholders' meetings, as instructed? 
 
 Did you examine into condition of lawful 
 money reserve for thirty days preceding 
 examination? 
 
 Did you compare bank's copy of last re- 
 port of condition to Comptroller with Its 
 books at same date? 
 
 Have you sent out verification circulars 
 (Form 2193) as follows: 
 
 1. To all banks and bankers to which, 
 or from which, balances are due? 
 
 2. To all parties from whom money has 
 been borrowed on bills payable, certificates 
 of deposit, or notes and bills rediscounted? 
 
 3. To all parties to whom items have 
 been sent for collection? 
 
 4. To all officials in whose names State, 
 county, or municipal funds are deposited? 
 
 5. To the U. S. Treasurer (care of N. 
 B. Redemption Agency) for verification of 
 6 per cent fund OQ Form 2196. 
 
 NOTICE.— Fold pages together but 
 do not use any fasteners. 
 
 «^Fill Indorsement with 
 Typewriter. 
 
 No. of Bank, 
 
 EXAMINER'S REPORT 
 of 
 
 The. 
 
 Located at 
 
 .,190 
 
 Examiner 
 
 Examiner. 
 
PART II. 
 
 INTRODUCTION. 
 
 In the following pages it has been sought to compile 
 material that will be of service to the student who desires 
 a comprehensive knowledge of accounting problems as 
 practically presented. Inasmuch as readers of this volume 
 may be desirous of taking and passing accountancy exam- 
 inations, the first section of this Part — Section A — deals 
 with sundry suggestions for study and with methods of pre- 
 paring for such examinations. Several sets of examination 
 questions are given, all being drawn from the questions 
 set at various times by the New York board of accountancy 
 examiners. 
 
 In Section B is reproduced the outline of accounting 
 terms which has been prepared for the United States Gov- 
 ernment as a preliminary to the study of its statistics of 
 cities. The summary treatment here given is of special 
 value in differentiating public and municipal accounting 
 from commercial and private accounting. A considerable 
 number of terms are clearly defined which have not been 
 treated in Part I of the present volume, and the discus- 
 sion, it is therefore believed, will be of service in supple- 
 menting the material already presented. In Section C 
 is given material dealing directly with governmental meth- 
 ods of accounting, one monograph on federal accounting 
 being reproduced. 
 
 In Section D is given a treatment of the new federal 
 corporation tax and its application to corporation account- 
 
 207 
 
508 HENRY PARKER WILLIS 
 
 ing. This is a field of accounting which has assumed large 
 importance in England, and in other coimtries where taxa- 
 tion has necessitated the keeping of accounts in specified 
 ways. The field is comparatively new in the United States 
 and it is therefore deemed wise to present first the law 
 applying the corporation tax and the regulations under 
 which the Federal Government has sought to put it into 
 effect. There is also offered a treatment of the accounting 
 phases of the subject by a student of recognized standing. 
 In Section E is presented an outline treatment of cost 
 accounting in which public and private methods of cost 
 keeping are theoretically considered. This may with profi.t 
 be read in connection with the section on the same subject 
 given in Part I of the present volume. 
 
 An additional exposition of some of the more difficult 
 principles of the subject has also been reproduced. In 
 Section F three Federal Supreme Court decisions ren- 
 dered in cases involving accounting questions are offered 
 in order that the student may familiarize himself with 
 the lines of reasoning employed by the courts in adjudicat- 
 ing accounting questions. The work of the courts has be- 
 come exceedingly significant in connection with account- 
 ing issues abroad, and is likely to become progressively 
 more so in the United States. In Section Gr is given matter 
 relating to, or descriptive of, certain phases of standard sys- 
 tems of accounts. A part of this matter is drawn from the 
 balance sheet prescribed for the railroads of the United 
 States by the Federal Government, and a part from a sys- 
 tem put into effect by a large and highly organized private 
 company. The student will profit from an examination of 
 these systems of accounting in conjunction with the sec- 
 tion on corporation and manufacturing accounting offered 
 in Part I of the present volume. 
 
 Very sincere thanks are due the Editor of the Journal 
 of Accountancy, the Editor of the Government Accountant, 
 the Editor of the Yale Review, Hon. LeGrand Powers, 
 
INTRODUCTION ^09 
 
 TT. S. Census, and Hon. Lawrence 0. Murray, Comptroller 
 of the Currency, for permission to use matter presented 
 in this Part. 
 
 Particular acknowledgment should also be made to the 
 several of those whose work is reprinted here, for the per- 
 mission and encouragement they have given the present 
 compiler, in reproducing their writings. 
 
 B—vni— 14 
 
SECTION A. 
 
 WORKS FOR THE STUDY OF ACCOUNTING. 
 
 Chase, Auditing and Cost Accounting (LaSalle Exten- 
 sion University). 
 
 Cole, Accounts, (Houghton Mifflin & Go.)^ 
 
 Dicksee, Bookkeeping for Accountant Students, (Gee & 
 Co., London).^ 
 
 Dicksee, Advanced Accounting, (Gee & Co., London).^ 
 
 Grierson, Bookkeeping for Commercial Classes, (Blackie & 
 Co., Edinburgh).^ 
 
 Grierson, Advanced Bookkeeping, (Blackie & Co., Edin- 
 burgh)." 
 
 Hatfield, Modern Accounting, (Appleton & Co.).^ 
 
 Keister, Corporation Accounting, (Burrows Bros.).^ 
 
 Lisle, Accounting in Theory and Practice, (William Green 
 & Sons, Edinburgh).^ 
 
 Lisle, Cyclopaedia of Accounting, (William Green & Sons, 
 Edinburgh)."^ 
 
 Sprague, Philosophy of Accounts, (Published by Author, 
 N. Y. City).^ 
 
 The Accountants Library, (Gee & Co., London).^"* 
 
 1. Should be studied by reader of the present volume in conjunction there- 
 
 with, unless he already has a knowledge of bookkeeping principles 
 and practice. 
 
 2. Should follow the preceding for use with the present volume. 
 
 3. May be substituted for the works referred to in Notes 1 and 2. 
 
 4. May be read collaterally with the present volume by those who desire 
 
 fuller exposition of details and discussion of matters not dealt with in 
 the present volume. 
 
 5. May be read as collateral if desired. 
 
 6. Affords valuable detailed information on special phases of accounting. 
 
 7. Authority on all phases of accounting theory and practice. 
 
 8. May be consulted on special phases of corporation accounting practice. 
 
 9. Of service on some of the more abstract questions of accounting theory. 
 10. A series of reliable monographs on the accounting problems of various 
 
 classes of business. 
 
 210 
 
ACCOUNTANCY EXAMINATIONS. 
 
 While the study of accountancy is of fundamental value 
 to those who have accountancy systems to install or who 
 are concerned with the business of conducting, and improv- 
 ing upon, sets of books, there is, as has been noted in the 
 earlier part of this volume, a growing demand of a new 
 sort for expert knowledge of accounting. This demand is 
 afforded by what is now called the accoimtancy profes- 
 sion whose demands and functions have been sketched in 
 general terms in Part I of the present book. It is, there- 
 fore, important to many students of accounting to know 
 how and under what conditions they can gain admission 
 to the profession of accountancy and under what circum- 
 stances the practice of that profession is best carried on. 
 
 The present tendency is toward the regulation and con- 
 trol of the accountancy profession by two methods: (1) 
 State legislation and (2) private organization among ac- 
 countants : 
 
 State Legislation. 
 
 The State of New York passed the first law relating 
 to accountancy in 1896.* 
 
 *The New York Certified Public Accountant law, which may be regarded 
 as tyoical, is as follows: 
 
 Section 1. Any citizen of the United States, or person who has duly de- 
 clared his intention of becoming such citizen, residing or having a place for 
 the regular transaction of business in the state, being over the age of twenty- 
 one years and of good moral character, and who shall have received from the 
 regents of the university a certificate of his qualifications to practice as a 
 public expert accountant as hereinafter provided, shall be styled and known as 
 a certified public accountant; and no other person shall assume such title, or 
 use the abbreviation C. P. A. or any other words, letters or figures, to indicate 
 that the person using the same is such certified public accountant. 
 
 Section 2. The regents of the university shall make rules for the examma- 
 tion of persons applying for certificates under this act, and may appoint a 
 board of three examiners for the purpose, which board shall, after the year 
 eighteen hundred and ninety-seven, be composed of certified public account- 
 ants. The regents shall charge for examination and certificate such fee as may 
 be necessary to meet the actual expenses of such examinations, and they shall 
 
 Sll 
 
212 ACCOUNTANCY EXAMINATIONS 
 
 In 1899 a statute designed for the same purpose as 
 that of New York was passed in Pennsylvania. Mary^- 
 land passed a law in 1900 and California one in 1901. 
 Laws were enacted by Illinois and Washington in 1903 
 and by New Jersey in 1904. Other states followed in 
 1905, 1906, 1907, 1908 and 1909, until in all twenty-one 
 laws have been passed. The essential ideas embodied in 
 these acts of legislation are the establishment of condi- 
 tions under which the certificate or degree of C. P. A. 
 (Certified Public Accountant) may be granted, and the 
 making of provision for the enforcement of standards 
 through examinations offered by a board of examiners 
 which is presumably responsive to the best professional 
 opinion on the subject. No action has been taken by the 
 Federal Government with reference to the recognition of 
 certified public accountants and nothing has been done 
 in connection with public regulation of corporation ac- 
 counts that specifically calls for the recognition of certi- 
 fied public accountants as such. It has been desired by 
 some that, in its inspection of the accounts of corpora- 
 tions, the Federal Government should accept a certificate 
 on certain points rendered by a properly qualified public 
 accountant but thus far nothing whatever has been ac- 
 complished in that direction. 
 
 Professional Control. 
 
 Professional control of the standards and methods of 
 the accountancy profession is proceeding along much the 
 same lines as have been followed in other occupations. 
 Associations of accountants have been organized, conspic- 
 
 report, annually,- their receipts and expenses under the provisions of this act 
 to the state comptroller and pay the balance of receipts over expenditures to 
 the state treasurer. The regents may revoke any such certificates for sufficient 
 cause after written notice to the holder thereof and a hearing thereon. 
 
 Section 3. The regents may, in their discretion, waive the examination 
 of any person possessing the qualifications mentioned in section one who 
 shall have been, for more than one year before the passage of this act, prac- 
 ticing in this state on his own account, as a public accountant, and who shall 
 apply m writing for such certificate within one year after the passage of this act.j 
 
 Section 4. Any violation of this act shall be a misdemeanor. 
 
 Section 5. This act shall take effect immediately. 
 
ACCOUNTANCY EXAMINATIONS 213 
 
 uously the American Association of Public Accountants, 
 which hold regular meetings and a part of whose duty it 
 is directly or indirectly to pass upon the standards for 
 admission to the profession and the practices that may 
 be followed within it. In this as in other professions, the 
 control exerted by such associations has been unofficial 
 purely and has been intended to exert merely a wholesome 
 influence in the way of forming public opinion and estab- 
 lishing standards of conduct. This movement is being 
 assisted through the organization of courses in account- 
 ing and subjects kindred thereto in several of the princi- 
 pal universities of the country. In these it is sought to 
 give training which will not only fit for the taking of C. 
 P. A. examinations but will also equip students for further 
 work along new lines in accounting where expert qualifica- 
 tions of the larger sort than those called for by routine 
 accountancy are demanded. 
 
 Scope of Education. 
 
 In accountancy, as in other professions, it is found that 
 the examinations which are required of those who de- 
 sire to obtain a certificate authorizing them to practice 
 the profession are usually placed at a minimum by the 
 constituted authorities; that is to say, the certificate of 
 C. P. A. represents about the smallest amount of informa- 
 tion that is actually requisite to the practice of the pro- 
 fession. This does not mean that C. P. A. examinations 
 are *^easy" — quite the reverse — but that their scope is lim- 
 ited to those subjects which are undoubtedly indispensable, 
 or practically so, to the accountant's work. The question 
 may fairly be raised then how far actual education can be 
 directed toward the fitting of men for the passing of ac- 
 countancy examinations, how far more general education 
 is actually needed by the would-be accountant, and in what 
 directions this kind of education should be secured. In 
 
214 ACCOUNTANCY EXAMINATIONS 
 
 considering these questions, a beginning may be made with 
 the scope of the C. P. A. examination. 
 
 C. P. A. Examinations. 
 
 Some states limit the examination itself to commercial 
 law and general accounting with fairly large liberty to 
 the board of examiners to arrange the different papers 
 on different branches of the subject as they see fit. Other 
 laws provide for examinations in the theory of accounts, 
 in auditing, in practical accounting, and in commercial law. 
 Here the greatest difficulty to be met by the student at 
 the outset perhaps lies in discriminating between the theory 
 of accounts and the practical accounting. At another point 
 in this volume (see pp. 211, ff.) have been reproduced the 
 questions set over a period of years in the ISTew York state 
 examinations with reference to the theory of accounts. A 
 reading of these questions will show the nature of the in- 
 formation which has been grouped under that head by 
 the New York examiners who may be taken as fairly rep- 
 resentative of the profession. It is seen that these ques- 
 tions relate entirely to the principles of accounting, that 
 is to say, to the question how certain operations should be 
 performed or problems should be solved and not to the 
 actual solving of difficult questions of technique. In order 
 to get the information needed for this particular phase of 
 an accountancy examination the student may consult, in 
 addition to the works in this series, several excellent works 
 which have been listed elsewhere in this volume (see 
 page 210). Among these as suitable for the beginner may 
 be mentioned Grierson's Bookkeeping for Commercial 
 Classes, Grierson's Advanced Bookkeeping, Dicksee's 
 Bookkeeping for Accountant Students, Dicksee's Advanced 
 Accounting, Lisle 's Accounting, Sprague's Philosophy of 
 Accounts, and for a few special points Keister's Corpora- 
 tion Accounting. For current discussions of new prob- 
 lems and for information designed to keep the student 
 
ACCOUNTANCY EXAMINATIONS 215 
 
 abreast of the times in accountancy recourse may be had 
 to The Accountant published weekly in London (Moor- 
 gate Street) and the Journal of Accountancy published 
 in New York (32 Waverly Place). From these sources 
 sufficient information can be obtained by the student who 
 is working independently, to fit him to pass the account- 
 ancy examinations. Of course, if he is so situated as to 
 be able to attend courses in accountancy, such as are given 
 by some of our imiversities located in large cities, he will 
 profit very largely by attending lectures and classes, even 
 though nothing is added to his general stock of informa- 
 tion, but only a training in methods of work and in the 
 point of view to be adopted with reference to the study 
 of accountancy. 
 
 Practical Accounting. 
 
 Practical accounting is differentiated from the 'theory 
 of accounts in that the papers consist of problems presum- 
 ably drawn from actual experience. The candidate is 
 called upon to give an adequate solution of the problem 
 by showing how such a question would be dealt with in 
 practice and sketching usually the various entries that are 
 necessitated by the terms of the problem. Obviously only 
 two suggestions can be made with reference to this por- 
 tion of the examination: (1) The candidate should have as 
 large a practical experience as possible in accounting; the 
 more varied it is the better training it provides for the 
 quick working out of the practical questions; (2) in lieu 
 of practical experience, which not all perhaps can have 
 secured prior to taking the examination, the candidate 
 should familiarize himself with as many questions as pos- 
 sible from those that have actually been set in the past 
 by accountancy boards and particularly by the board of 
 examiners in his own. state. Difficulty often arises in this 
 part of the accountancy examination from the fact that 
 the time allowed is very short, so that the candidates, 
 
216 ACCOUNTANCY EXAMINATIONS 
 
 although they might successfully work out the problems 
 if they had time, fail by reason of the fact that they cannot 
 answer enough questions in a sufficiently short time to 
 make a passing grade. It is said that "more candidates 
 fail in practical accounting than in any of the other sub- 
 jects." Probably an important part of ther preparation 
 for the examination will be found in familiarizing one's 
 self with a great number of actual practical problems 
 stated in general terms, so that in the examination room 
 the candidate may be able to assign any particular state 
 of facts or problem that may be set before him to a given 
 class of general problems or conditions previously formed 
 in his own mind through the study of typical instances. 
 
 Auditing. 
 
 The examination on auditing is likely to be somewhat 
 of a combination of questions of theory and practice. This 
 involves the difficulties of both classes of questions and it 
 has been said that, to pass a good examination in audit- 
 ing, experience is almost absolutely necessary; this expe- 
 rience to be had of course in practical auditing, which 
 means substantially in an auditor's office. Some states 
 require that a candidate shall have served a given number 
 of months in such an office before becoming a candidate 
 for examination but this is not a universal requirement. 
 Experience shows, however, that where such practical 
 training has not been had candidates may pass very satis- 
 factory examinations in auditing provided they have sur- 
 veyed the ground in sufficient detail beforehand. The dif- 
 ficulty comes from the fact that, as auditing is essentially 
 a practical matter, the student who seeks to pass the ex- 
 amination is obliged to substitute the results of his reading 
 for practical experience. True, in some cases, examination 
 papers do not deal specifically vdth auditing as such but 
 in many instances the questions set are those which, it 
 might be expected, would come under the head of theory 
 
ACCOUNTANCY EXAMINATIONS 217 
 
 of accounts. Nevertheless, most auditing examinations 
 contain specific questions with reference to the process 
 to be pursued in actually auditing the accounts of a firm 
 or corporation. 
 
 By way of preparation for such an examination the 
 student, in addition to the work he has devoted to the the- 
 ory of accounts as such, may well cover the subject of 
 auditing, using the reliable volume on this subject in the 
 present series. For additional reading, Dicksee's Audit- 
 ing is recommended. To this, however, should be added 
 studies of the way in which the business of actual con- 
 cerns is in practice audited. Information on this topic 
 can be obtained by securing the instructions, blanks, etc., 
 employed in examining the accounts and books of various 
 classes of concerns which are subject to periodical exam- 
 ination. One of the best examples of this sort of work will 
 probably be found in the National Bank Examination Sys- 
 tem, data about which have already been given in this vol- 
 ume (see page 172). By carefully studying the process of 
 auditing and examining the books of a concern as it is fol- 
 lowed out in some important system of this sort, a substi- 
 tute for practical experience may be had which will serve 
 the purpose in the examination room. 
 
 Mr. William A. Chase gives the following as an example 
 of a representative examination on auditing: 
 
 What are the nature and principles of an audit? 
 
 Illustrate the bearing of the term ^depreciation' upon 
 accounts representing investments in stocks and shares, 
 buildings, leases, plant and machinery, and profit and loss. 
 
 In auditing the accounts of the first financial year of 
 a corporation which Avas formed to acquire an established 
 business, what documents, books, etc., would you require 
 to have produced for your inspection? 
 
 It is frequently alleged that dividends have been paid 
 out of capital. Explain this statement and point out in 
 what ways a dividend can be so paid. 
 
218 ACCOUNTANCY EXAMINATIONS 
 
 Are there, in your opinion, any circumstances which 
 would justify the addition to actual cost of any anticipated 
 profit, in the case of partially manufactured goods, or of 
 an uncompleted engineering contract, or in similar cases'? 
 
 In your examination, as auditor of securities consisting 
 of bonds to bearer, inscribed stocks, certificates for shares 
 and bills receivable, what would be your method of pro- 
 cedure and what main object would you have in view? 
 
 A firm expends large sums upon advertisements in 
 order to form a business. Assuming that the expenditure 
 thereon decreases annually until in the seventh year it 
 reaches a point representing a normal annual cost under 
 this head, how would you expect the amounts to be treated 
 in each year's balance sheet? In your reply let $70,000.00 
 be the expenditure of the first year, and decrease $10,000.00 
 annually. 
 
 What steps would you, as auditor, take to see that prop- 
 er provision had been made for bad and doubtful debts? 
 
 (a) In the case of a private firm. 
 
 (b) In the case of a corporation. 
 
 In auditing the accounts of a trading firm or corpora- 
 tion, state the steps you would take to verify the cash book. 
 
 If you were asked to make an examination of a firm's 
 books for the purpose of giving a certificate of profite with 
 a view to its conversion into a corporation, how would you 
 make your examination, and what are the chief points to 
 which you would direct your attention? \ 
 
 Commercial Law. 
 
 Accountancy examinations usually include a paper on 
 commercial law and this has raised the question whether 
 a man before becoming an accountant ought not really to 
 be legally trained. A law education is by some held to be 
 very desirable as a part of an accountant's equipment 
 while others are inclined to question the usefulness of the 
 law examination as ordinarily given. Many papers on com- 
 
ACCOUNTANCY EXAMINATIONS 219 
 
 mercial law are undoubtedly little more than enough to 
 indicate a mere smattering on the part of the person who 
 passes the examination. For this reason a systematic 
 course in a resident or good correspondence school of law 
 is by many insisted upon as a really necessary part of an 
 accountant's equipment, since such knowledge of law as 
 he possesses will probably stand him in good stead in unex- 
 pected ways in connection with the accounting work that 
 may fall to him to do. Undoubtedly in accountancy, as in 
 other professions, a broad thorough knowledge of all sub- 
 jects that are even collaterally connected with the princi- 
 pal subject to which the candidate is devoting himself will 
 be of value, but on the other hand this idea might easily 
 be carried so far as to render it practically impossible in 
 operation. As a matter of fact, the accountancy examina- 
 tions, in so far as they relate to commercial law, do not 
 presuppose a professional law training but merely such 
 ideas on law as are directly and intimately relevant to 
 accounting ideas. The student should be familiar, for ex- 
 ample, with the National Bank Act and the National 
 Bankruptcy Act, as well as with local statutes relating 
 specifically to banking, insurance, partnership, corpora- 
 tions, commercial paper, estates, etc., and other matters 
 of like character. "American Law and Procedure," in 14 
 volumes, edited for the LaSalle Extension University by 
 Dean Hall, of the University of Chicago, and by James De- 
 Witt Andrews, of the New York Bar, is the simplest com- 
 plete, non-technical treatment of the whole field. For the 
 student who finds it necessary to get the utmost possible 
 information with the smallest amount of work the volume 
 on Commercial Law by Hirschl, and published in this series 
 by the LaSalle Extension University, is recommended. 
 
 Mr. Chase gives the following as an example of an ordi- 
 nary accountancy examination on commercial law: 
 
 What do you know about the doctrine of ultra vires as 
 applied to officers of a corporation^ Give an example. 
 
220 ACCOUNTANCY EXAMINATIONS 
 
 How far is the fact tliat a person shares in the profits 
 of a business conclusive evidence that he is a partner? 
 What further evidence, if any, is necessarj^ to determine 
 whether he is a partner or not ? 
 
 What do you understand by the phrase, **A seal is said 
 to import a consideration"? A says to X, '*I want to take 
 your watch to pieces, but I will put the pieces together 
 again." X consents, but A, after taking it to pieces, re- 
 fuses to put it together again, and contends that there was 
 no consideration for his promise to do so. Is he right? 
 Give your reasons. 
 
 In what cases will a purchaser of goods from a seller 
 
 (a) who is not the owner of them, 
 
 (b) who has only a voidable title to them, himself 
 get a good title ? 
 
 State the various ways in which an agent's authority 
 may be determined? 
 
 When and how does the failure to present a bill of ex- 
 change for payment affect the rights of the holder? 
 
 How far is the right of stoppage in transitu affected by 
 the transfer of bills of lading? Would the fact that the 
 transferee had not paid the consignee, or that the transfer 
 w^as by way of security for an advance, affect your answer? 
 
 Can a corporation, if it chooses to do so, issue preferred 
 stock? 
 
 Is it necessary to copjnnght trade-marks and trade- 
 brands to protect the owner against tHeir use by compet- 
 itors? 
 
 In your state what does the law provide as to the pay- 
 ment in part, or in full, of the issue of capital stock by a 
 corporation? 
 
 Knowledge of Mathematics. 
 
 While some knowledge at least, of law in its commer- 
 cial aspects, is required in order to pass the accountancy 
 examination and while a general knowledge of law is by 
 
ACCOUNTANCY EXAMINATIONS 221 
 
 many considered desirable, a knowledge of mathematics is 
 by others strongly recommended as a valuable part of an 
 accountant's equipment. By mathematics as the term is 
 here used is, of course, meant the higher mathematics. This 
 is by some urged on the ground that it tends to increase 
 accuracy, power of concentration, and ability to reason 
 clearly and logically, powers which it is alleged are more 
 strongly cultivated by the study of mathematics than by 
 any other study. Whether the study of mathematics is 
 of more value for these purposes than other kinds of study 
 is a question which need not be discussed here but it is 
 undoubtedly true that in some branches of accountancy, 
 particularly in those dealing with actuarial questions and 
 with depreciation in some of its aspects, a knowledge of 
 mathematics is serviceable. There is however no present 
 probability that knowledge of the higher mathematics 
 will be demanded in the near future as a part of account- 
 tancy requirements. 
 
 Fairness of Examinations. 
 
 The question of the degree of fairness shown in carry- 
 ing on the C P. A. examinations in certain states is one 
 that has caused considerable discussion in the past. It 
 has been charged by not a few persons that the examina- 
 tions in some places were conducted in such a way as to 
 eliminate as many candidates as possible and this charge 
 has been particularly pressed in New York where at times 
 the percentage of failure has been very large. In New 
 York about two-thirds of all applicants were excluded dur- 
 ing a period of years, while in one year only 9 per cent of 
 the candidates examined in practical accounting were 
 passed. Usually the questions are ten in number on each 
 topic to which a separate paper is given, and the time 
 allotted for each paper is three hours. It has frequently 
 been charged that the papers set were so long that it was 
 impossible to write the answers in the time allowed, no 
 
222 ACCOUNTANCY EXAMINATIONS 
 
 matter how well-equipped the candidate miglit be, while 
 in some instances questions had been obscure and there 
 had been ambiguity in the form of their expression due 
 to doubt about the meaning of a specific word or clause. 
 Occasionally examiners have shown a disposition to bo 
 technical in formulating their questions, while others have 
 been biased against accountants whose ideas differed much 
 from their own. The examiners have usually been ap- 
 pointed for short terms and have been busy men so that 
 in many instances they have not acquired the experience 
 as examining bodies or probably devoted the time to their 
 work that was necessary in order to get the best results. 
 It must also be reluctantly admitted that there has been 
 a disposition on the part of some accountants to desire 
 to keep the profession, and particularly the degree of C. 
 P. A. which goes with it, as close a monopoly as possible. 
 This has been for the selfish reason that with fewer firms 
 of recognized accountants there would be more demand 
 for the services of each, while it would be easier to secure 
 the aid of staffs of men who needed experience in an ac- 
 counting office as a prerequisite to their becoming candi- 
 dates for the C. P. A. degree. Attention has been called 
 to these undesirable aspects of the situation by various 
 investigators among which may be mentioned representa- 
 tives of the New York Journal of Commerce and Commer- 
 cial Bulletin, while Ernest S. Suffern, C. P. A., in the Jour- 
 nal of Accountancy* calls attention to some of the points 
 referred to. How long this condition of affairs will be 
 permitted to exist as undoubtedly does exist in many 
 states, may be mentioned, but there is reason to believe 
 that the practice will gradually decrease as its prevalence 
 has done more to prevent the adoption of C. P. A. legisla- 
 tion than perhaps any other influence. The profession of 
 accountancy as a profession is still insecure in the United 
 States notwithstanding the dignified position it has secured 
 
 * March. 1910, pp. 384, fif. 
 
ACCOUNTANCY EXAMINATIONS 223 
 
 in England, Scotland and other countries. In order to 
 put it on a permanently recognized professional basis, it 
 must of course accept high professional standards in its 
 own attitude toward professional questions such as those 
 relating to admission to the occupation. In palliation of 
 the indefensible things that have occasionally been done 
 in connection with examinations in some states, it of course 
 is claimed that there has been a large number of ill-pre- 
 pared candidates in the field, which is undoubtedly true, 
 while it is further alleged that these candidates have 
 lacked uniform text-books and suitable opportunities for 
 training in many instances, this lack of uniformity and 
 want of a common training being itself one of the circum- 
 stances which have prevented the giving of examinations 
 in a uniform and standardized way. Doubtless there is 
 some basis for this statement as applied to New York, 
 while in many other states, it is the general consensus of 
 opinion; the criticisms already offered with respect to the 
 methods already pursued in giving accountancy examina- 
 tions have not the same basis as in the State of New York 
 itself. 
 
 One criticism which admittedly holds good in New 
 York, and in some other states as well, is based on the de- 
 lays and irrelevant obstacles of one kind or another that 
 are frequently thrown in the way of men who have passed 
 the necessary examination. It has appeared in New York, 
 particularly, that even in some cases where men had done 
 all that was necessary in order to get their C. P. A. cer- 
 tificates the certificates were not forthcoming, owing to 
 technical delays attributed in some cases to a failure on 
 the part of the candidate to establish his possession of 
 necessary preliminary education or to some other circum- 
 stance of which the applicant undoubtedly should have 
 been informed prior to the date when he had supposed 
 himself eligible for his degree. In other cases men who 
 iiave asked for a review of their papers have been denied 
 
224 ACCOUNTANCY EXAMINATIONS 
 
 the rights which they possessed under the law on the 
 ground that the examiners had not the time to attend to 
 the matter. These of course are sporadic cases and the 
 instances cited have been drawn chiefly from experience 
 in New York. While, as already indicated, there are simi- 
 lar difficulties in other states, it is probable that nowhere 
 else is there so much to be complained of. 
 
 Advantage of General Training. 
 
 In what has been said thus far, atjtention has principally 
 been given to the actual requirements of the law with ref- 
 erence to accountancy examinations. These requirements 
 must, of course, be lived up to by those who desire to get 
 legal and official recognition as Certified Public Account- 
 ants. Behind all such purely legal requirements, however, 
 is the fact that the most effective work in the profession 
 of accountancy can be done by those who have the best 
 general training in the scientific study of modem business 
 and commerce. A general knowledge of economics is un- 
 doubtedly of large value to the student, the more valuable 
 in proportion as the study of economics has been directed 
 along practical lines rather than to the purely theoretical 
 side of the subject. Of course it is also true that thorough 
 educational training in other directions will serve the same 
 purpose in equipping a man for accountancy that it does 
 in equipping him for other occupations. Thorough pre- 
 liminary general education obtained before the candidate 
 thinks seriously of devoting himself to a technical occupa- 
 tion is highly desirable in this as in other lines of work. 
 
 Preliminary Education. 
 
 Preliminary education is now usually limited in the re- 
 quirements to the equivalent of a high school course of 
 standard grade and while this may be advanced in some 
 states before very long it is not likely that the level thus 
 set will be raised very materially or generally for some 
 time to come. 
 
EXAMINATIONS ON THE THEORY OF ACCOUNTS. 
 
 I. 
 
 1. State the essential principles of double enti^- book- 
 keeping and show wherein it differs from single entry 
 bookkeeping. 
 
 2. Describe the following and show wherein they differ: 
 (a) trial balance, (b) balance sheet, (c) statement 
 of affairs, (d) realization and liquidation account. 
 
 3. In devising a system of accounts for a business what 
 are the main subjects for consideration, and in what 
 order should they have attention? 
 
 4. Describe the following and show wherein they differ: 
 (a) revenue account, (b) trading account, (c) profit 
 and loss account, (d) deficiency account. 
 
 5. State the purposes for which series of perpendicular 
 columns are employed in books of original entry and 
 how these purposes may be accomplished relative to 
 the following conditions : (a) several ledgers compre- 
 hended in one system of accounts, (b) several depart- 
 ments comprehended in one business, (c) several ac- 
 counts comprehended in income and expenditure. 
 
 6. Describe the following and show wherein they differ: 
 (a) statement of income and expenditures, (b) state- 
 ment of receipts and payments. 
 
 7. Describe a method of keeping accounts so that the 
 aggregate sums due from customers and due to cred- 
 itors can be known without preparing a schedule of 
 the accounts of such customers and creditors, and so 
 that an independent balance of the ledger, containing 
 only the real, nominal, special and controlling ac- 
 counts, exclusive of the individual accounts of custo- 
 
 B.VIII— 16 225 
 
226 EXAMINATION QUESTIONS 
 
 mers and of trade creditors, may be taken. 
 
 8. Define and differentiate: (a) capital and revenue, 
 
 (b) capital receipts and revenue receipts, (c) capital 
 expenditure and revenue expenditure. 
 
 9. How may the accounts in a trial balance be best ar- 
 ranged to facilitate the preparation of a business and 
 financial statement? 
 
 10. Define and differentiate: (a) fixed assets and cash 
 assets, (b) fixed liability and floating indebtedness, 
 
 (c) fixed charges and operating expenses. 
 
 11. Describe the following kinds of accounts: (a) per- 
 sonal, (b) impersonal, (c) real, (d) nominal, (e) cur- 
 rent, (f) summary. 
 
 12. Describe the process and state some of the purposes 
 of analyzing a ledger. 
 
 13. Describe the nature of the following accounts: (a) 
 sinking fund, (b) reserve fund, (c) redemption fund, 
 
 (d) depreciation fund, (e) contingent fund, (f) in- 
 vestment fund. 
 
 14. Define the following: (a) stock, (b) capital, (c) sur- 
 plus, (d) deficiency, (e) capital stock, (f) preferred 
 stock, (g) common stock, (h) share capital, (i) loan 
 capital. 
 
 15. Describe the nature of the following accounts: (a) 
 merchandise, (b) construction, (c) consignment, (d) 
 joint, (e) subscription, (f) expense, (g) maintenance, 
 (h) venture, (i) suspense, (j) dividend. 
 
 n. 
 
 1. Describe the principal books of account of some con- 
 cern with which you are familiar, and show the rela- 
 tion and connection of these books. 
 
 2. What various meanings may an entry in a ledger 
 account have, on (a) the debit side? (b) On the credit 
 
 ^oi side? 
 
 3. Show the advantages and the disadvantages of the 
 
EXAMINATION QUESTIONS 227 
 
 column system for books of original entry. 
 
 4. Describe the process of closing the ledger of a mer- 
 cantile firai. 
 
 5. In what ways may bad or doubtful debts be disposed 
 of at the close of a fiscal period? 
 
 6. What are the functions of the cash book? Describe 
 the peculiarities of one or more cash books with which 
 you are familiar. 
 
 7. In what order should the several items in a balance 
 sheet be placed? Give reasons for your answer. 
 
 8. Describe a bill book and show its relation to (a) the 
 bills receivable account; (b) the bills payable account. 
 
 9. How should one proceed to detect an error in a trial 
 balance? 
 
 10. State various ways of treating the bank balance in 
 connection with cash on hand. 
 
 11. Describe the merchandise account as ordinarily kept. 
 Show how it may be subdivided and suggest improve- 
 ments. 
 
 12. How may a set of books be changed from single entry 
 to double entry? 
 
 13. Describe various uses of the journal. 
 
 14. What are the functions of a real estate account? 
 What entries may it properly have on each side? 
 
 15. Describe the stock ledger (shares ledger) of a corpora- 
 tion and show how it is kept. 
 
 III. 
 
 1. What are the main features of difference between a 
 trial balance taken out at the end of a fiscal year 
 before the books of a business are closed, and one 
 taken out immediately after the books are closed? 
 
 2. What is meant by (a) capital? (b) Working capital? 
 Why is capital always shown on a balance sheet as 
 a liability? 
 
 3. Formulate journal entries to express fully each of the 
 
228 EXAMINATION QUESTIONS 
 
 following transactions: (a) a sale of goods for a note 
 bearing interest, (b) the discounting of tbe above- 
 mentioned note at a bank, (c) the annulling of a per- 
 sonal account as uncollectable, (d) the adjusting of 
 an interest account for interest earned but not yet 
 collected. 
 
 4. Under what circumstances is a patent regarded as an 
 asset? After a patent has been valued, should such 
 value be considered as permanent? Give reasons for 
 your answer. 
 
 5. In the opening of a ledger, what principle should be 
 followed as to the order of arrangement of the ac- 
 counts? Show the advantages of different plans. 
 
 6. Describe a set of books for a commission merchant. 
 Show the relation of each book to the other books of 
 the set. 
 
 7. State what is meant by a cost sheet, showing its ad- 
 vantages and how it is made up. Give a form of cost 
 sheet for some manufacturing business with which 
 you are familiar. 
 
 8. What is meant by the good-will of a business ? Under 
 what circumstances does it become important to de- 
 termine the value of the good- will of a business? I 
 
 9. Mention five classes of ledgers and describe the pe- 
 culiar features of each class. ' 
 
 10. Describe the following, and state the distinguishing 
 feature of each: (a) income account, (b) surplus ac- 
 count, (c) suspense account, (d) reserve fund. 
 
 11. Define (a) funded debt, (b) floating indebtedness, 
 (c) fixed charges. May interest on floating debt prop- 
 erly be considered a fixed charge ? 
 
 12. State cases in which leases have a value that should 
 appear in the accounts. How should provision be 
 made in such cases for the falling out of such value 
 at the expiration of the leases? 
 
EXAMINATION QUESTIONS 229 
 
 13. In case of discrepancy in a trial balance, how may 
 the accountant ascertain which side is erroneous? 
 
 14. How may the gross profit or loss on merchandise be 
 ascertained? 
 
 15. Describe the profit and loss account. Show how this 
 account is made up and from what accounts it is made. 
 What does the balance of the profit and loss account 
 represent, and how should such balance be finally 
 treated ? 
 
 IV. 
 
 1. Describe fully each of the following accounts, show- 
 ing what entries may be made on each side and what 
 disposition should be made of the balance: (a) cash 
 account, (b) interest account, (c) merchandise ac- 
 count, (d) suspense account, (e) real estate account. 
 
 2. Describe the following securities and show the essen- 
 tial features of each: (a) common stock, (b) pre- 
 ferred stock, (c) income bonds, (d) debenture bonds, 
 (e) mortgage bonds. 
 
 3. Describe the process of taking a trial balance. State 
 the purposes of the balance and show its relations 
 to the balance sheet. 
 
 4. Give a rule averaging the maturity of the balance 
 of an account containing items of various dates on 
 each side. 
 
 5. State in the form of journal entries the following 
 transactions: (a) a note of a customer returned with 
 protest charges from the bank where it had been left 
 
 ' for collection, (b) the setting aside for wear and tear 
 of a portion of the value of machinery, (c) the adjust- 
 ment of interest accrued but not yet payable on a 
 mortgage, (d) accommodation paper indorsed by the 
 firm when coupon bonds are received as security. 
 
 6. In case of bonds purchased at a premium or at a dis- 
 count, to be held till maturity, state how the price 
 
230 EXAMINATION QUESTIONS 
 
 should be disposed of on the books at purchase, at 
 maturity and at any intervening time. 
 
 7. Formulate, in an imaginary case, the journal entry 
 or entries for the conversion of a partnership into a 
 joint stock company with the same resources and lia- 
 bilities. ? 
 
 8. Describe a voucher record for the expenditures of a 
 corporation. . . 
 
 ' 9. What is meant by good- will ? What kind of property 
 is good- will? May the good- will of a partnership be 
 sold? , , i 
 
 10. What names are given to accounts that represent the 
 excess of assets over liabilities? Differentiate these 
 names in their application to various kinds of busi- 
 ness. 
 
 11. What is the proper course of procedure in taking 
 charge of the bookkeeping of a firm that has either 
 no books of account or very imperfect ones? 
 
 12. Describe fully a system by which occasional small 
 sales made on credit to persons not regular customers 
 may be recorded without opening a separate account 
 with each purchaser. 
 
 13. Describe the most complicated form of cash book 
 with which you are acquainted, showing its functions, 
 the sources from which its materials are derived and 
 where its results are carried. 
 
 14. Describe fully the method of keeping a bills receiv- 
 able account, and state the connection of the account 
 with the bill book. 
 
 15. As the bookkeeper of a firm that had no articles of 
 co-partnership, what would be your duty on learning 
 of the death of a partner? 
 
 V. 
 
 1. Define debit, credit, debtor, creditor. State the gen- 
 eral law growing out of the relationship of debtor 
 
EXAMINATION QUESTIONS 231 
 
 and creditor that governs double entry bookkeeping. 
 What is the result of a debit entry? Of a credit entry? 
 
 2. Mention the different classes into which accounts are 
 usually divided. Give the names of the principal ac- 
 counts of each class. Which class or classes of ac- 
 counts close into loss and gain account? Mention the 
 principal accounts common to mercantile bookkeep- 
 ing and state the purposes of each. 
 
 3. Define assets, liabilities. What are fixed assets, quick 
 assets? In making up a general statement of assets 
 and liabilities, what groups of accounts constitute 
 assets and what constitute liabilities? State how to 
 treat, on closing the books, assets and liabilities ac- 
 crued but not actually due (such as interest receiv- 
 able and payable, taxes, insurance, commissions, sal- 
 aries, rents). 
 
 4. Describe the different methods of determining the 
 loss or gain of a business. How is the loss or gain 
 of a business determined from books kept by single 
 entry? State the usual mode of procedure when the 
 books are kept by double entry. ■ 
 
 5. State the purpose of (a) consignment account, (b) 
 shipment or adventure account, (c) adventure joint 
 account, (d) merchandise company account. De- 
 scribe how each should be opened, conducted and 
 closed. 
 
 6. Describe the entries necessary to open a set of double 
 entry books. In what respect is the double entry sys- 
 tem preferable to the single entry system? 
 
 7. Describe the process of changing single entry books 
 to double entry. What additional accounts are re- 
 quired? Is it necessary to disturb any accounts al- 
 ready opened in the ledger, or to keep such accounts 
 differently after the change? 
 
 8. Describe in detail the manner of closing a double 
 entry ledger. How should the results of the business 
 
232 EXAMINATION QUESTIONS 
 
 be started? Why is property unsold credited to the 
 account to which it belongs before closing? How 
 should worthless and doubtful debts be treated in 
 closing? 
 9. State the entries necessary to open a set of corpora- 
 tion books so that the assets may appear properly on 
 the ledger. What books are necessary in corporation 
 accounting that are not necessary in mercantile ac- 
 counting? What does the capital account show? 
 Define preferred stock, common stock, watered stock. 
 
 10. State the object of each of the following: (a) plant 
 account, (b) capital account, (c) surplus or reserve 
 fund account, (d) redemption fund account, (e) de- 
 preciation account. 
 
 11. What should be done regarding the books on the ad- 
 mission of a new partner into a firm? What entry 
 should be made when cash is invested for a certain 
 share in the gains and losses? What entry should 
 be made when a specified amount is paid to the old 
 members for a certain share in the gains and losses? 
 
 12. What is understood by cost or factory bookkeeping? 
 What is shown by the cost books? What are the 
 principal items entering into the cost of manufactured 
 products ? 
 
 13. What is meant by the voucher system of bookkeep- 
 ing? Describe the voucher record book. 
 
 14. How should executors' and administrators' accounts 
 be stated for the purpose of filing in court? What 
 does the summary of accounts usually include ? What 
 are assets of the estate? When are dividends, inter- 
 est and rents to be treated as principal? Define an 
 intermediate account. What is a final account ? With 
 what does the executor charge himself? For what 
 does he take credit? 
 
 15. What is the duty of the assignee's accountant in the 
 case of an assignment? ^ How is the inventory stated? 
 
EXAMINATION QUESTIONS 233 
 
 What are included in the schedules? How is the 
 assignee's account stated for submission to the court? 
 What does the summary of account usually include"? 
 With what does the assignee charge himself? For 
 what does he take credit? 
 
 yi. 
 
 1. state and explain the two principal purposes for 
 which accounts are kept. 
 
 2. What important features of a business are shown by 
 double entry bookkeeping that single entry books can 
 not show? Explain clearly. 
 
 3. Describe the ordinary merchandise account and state 
 its purpose. Does it fully accomplish the purpose 
 desired? Give reasons for your answer. 
 
 4. Describe a voucher record and the process of conduct- 
 ing a vouchers payable system. State fully the ad- 
 vantage of this system. 
 
 5. Eecommend, with all necessary explanations, a set of 
 books peculiarly adapted to the use of a firm that 
 deals exclusively in butter, cheese and eggs, at whole- 
 sale, retail and on commission, and has three branches 
 in the same city, the books kept at the main store. 
 
 6. Define the following terms as applied to accounts: 
 personal, real, nominal, resource, liability. Men- 
 tion two real and three nominal accounts. 
 
 7. Describe the nature of the following accounts: 
 consignment, trading, suspense, construction, sub- 
 scription. 
 
 8. Formulate and explain a rule for determining wheth- 
 er an account should be debited or credited in any 
 given transaction. Explain the application of the 
 principle. 
 
 9. Describe a safe and easy system of keeping the ac- 
 count of goods returned, (a) as buyer; (b) as seller. 
 
 10. State explicitly and fully the function of the profit 
 
234 EXAMINATION QUESTIONS 
 
 and loss account. Distinguish between the function 
 of the profit and loss accoimt and that of the balance 
 sheet. 
 
 11. Some proprietors keep a private ledger of their busi- 
 ness, to which bookkeepers and clerks have no access. 
 Explain the purpose of such a book, and show what 
 accoimts it usually contains and how it is made to 
 agree with the general ledger. 
 
 12. State the theory and purpose of each of the follow- 
 ing, and show wherein they differ: (a) reserve fund, 
 (b) sinking fund. 
 
 13. State the general theory of the balance sheet. On 
 what theory does the English form of balance sheet 
 differ from the continental and American form? 
 Give an argument either for or against the English 
 form. 
 
 14. Define permanent assets, floating assets. Show how 
 each should be treated in ascertaining the standing 
 of a business at any specified time. State the theory 
 of each step in the process. 
 
 15. Describe two forms of sales ledger and the process 
 of entering the sales in each. Explain the advantage 
 of each form. 
 
 VII. 
 
 1. What is meant by double entry and how does it differ 
 essentially from single entry? Show the advantages 
 of recording every business transaction in two or 
 more different accounts. 
 
 2. State what is indicated by each of the following ledger 
 accounts, (a) when the account shows a debit bal- 
 ance, (b) when the account shows a credit balance, 
 loss and gain, merchandise, customer's ledger, pur- 
 chase ledger, Chicago branch or agenc}^, insurance, 
 rent, interest, commission. Explain fully. 
 
 3. Describe a private ledger. Describe the process of 
 opening a private ledger for a mercantile firm. What 
 
EXAMINATION QUESTIONS 235 
 
 relation would the private ledger bear to the general 
 trial balance? 
 
 4. Define auditing, accounting, bookkeeping, and show 
 the relation of each to the others. 
 
 5. You are required to suggest a method of bookkeep- 
 ing and to undertake the annual balancing of the 
 books of a large wholesale or jobbing establishment. 
 What general methods in the bookkeeping would you 
 recommend, and what plan would you adopt to expe- 
 dite your work? 
 
 6. Describe a sinking fund. How should the account of 
 such a fund be conducted in the case of a manufac- 
 turing corporation that bonds its works for $100,000, 
 payable in twenty years, and wishes to accumulate 
 during that period the sum necessary to retire the 
 bonds at maturity? 
 
 7. What is a controlling account? Give an illustration 
 of the use of such an account. 
 
 8. Show what is meant by the following terms: Closing 
 the books, balancing the books, making out a state- 
 ment, preparing a balance sheet, taking off a trial 
 balance. 
 
 9. Describe a means for the protection of a manufac- 
 turing company in the purchase of necessary mate- 
 rials and supplies and in the payment for such ma- 
 terials and supplies. 
 
 10. State the process of making a trial balance of a single 
 entry ledger. How may the loss or gain be deter- 
 mined from books kept by single entry? 
 
 11. A mercantile house draws on its customers at sight, 
 depositing its drafts in bank. Occasionally a draft 
 is returned dishonored. What entry should be made 
 when a draft is drawn, and what counter-entry should 
 be made when the draft is returned dishonored? 
 
 12. Describe a plan for handling invoices of materials 
 
236 EXAMINATION QUESTIONS 
 
 purchased for the use of a factory, payments for which 
 are to be made at the best discount date. 
 
 13. Describe an approved system of recording and vouch- 
 ing petty cash transactions. 
 
 14. Give the iniling of a stock or shares ledger for a corpo- 
 ration. Show how this book is kept, and indicate its 
 relation to the general books of account. 
 
 15. Illustrate a columnar cash book, a columnar journal, 
 and a columnar sales book. What general require- 
 ments should be observed in designing such books? 
 Give an estimate of the utility of the columnar plan. 
 
 VIII. 
 
 1. State one general rule that will embrace all the prin- 
 ciples governing double entry bookkeeping. Define 
 journalizing, in its broadest sense. 
 
 2. What is the result of a debit entry ? Of a credit entry? 
 Illustrate in the case of an account of each of the 
 following classes: (a) personal, (b) real, (c) nominal. 
 
 3. State the characteristic distinctions between single 
 entry bookkeeping and double entry bookkeeping. 
 What are the advantages of double entry over single 
 entry? 
 
 4. In double entry bookkeeping, why are the debits on 
 the left and credits on the right? 
 
 5. Define the following accounting and business terms: 
 Floating capital, fixed capital, quick assets, floating 
 liabilities, nominal accounts, passive assets, passive 
 liabilities. 
 
 6. In making up a business statement or a balance sheet, 
 why are the assets placed as debits and the liabilities 
 as credits? Are there any exceptions to this rule? 
 
 7. Describe the entries necessary to open a set of double 
 entry books for a firm just starting in business. 
 
 8. In closing the ledger accounts of an ordinary busi- 
 
EXAMINATION QUESTIONS 237 
 
 ness for the purpose of a general exhibit of affairs, 
 what order should be observed? 
 9. Define and differentiate: reserve fund, sinking fund, 
 depreciation, surplus. Classify the foregoing as as- 
 sets or liabilities and give reasons in each case. Ex- 
 plain the meaning of an item in suspense. 
 
 10. What is understood by the term net profit? State 
 the final disposition of net profit in the books of a 
 partnership; of a corporation. 
 
 11. What is a stock (or shares) ledger? Explain the 
 nature of its records and describe the manner in which 
 they are made. What relation does this book bear to 
 the general books of the corporation? 
 
 12. Describe and illustrate at least three forms of ledgers 
 adapted to customers' accounts, and state the form 
 you prefer for some specific class of accounts. 
 
 13. What plan would you suggest for recording in the 
 books of a large mercantile firm its contingent lia- 
 bilities incurred by indorsements on bills receivable? 
 
 14. What distinction would you make in an ordinary set 
 of books, as to debits to the merchandise account; 
 incidental expenses of the business; losses such as bad 
 debts, destruction of property, etc.? 
 
 15. Give a rule for averaging an account not yet due, 
 for the purpose of settling by note. 
 
 IX. 
 
 1. Into what general classes should ledger accounts be 
 divided? State the distinguishing feature of each 
 class. Mention one account belonging to each class. 
 
 2. State a comprehensive general rule for journalizing. 
 Write in your journal the entries of the following 
 transactions and explain the application of the rule 
 to each debit and credit: You receive from A. Tru- 
 man, administrator of an estate of which you are a leg- 
 atee, full titles to property as follows: warehouse on 
 
238 EXAMINATION QUESTIONS 
 
 Bond St. valued at $175,000, mortgaged to Ironclad 
 Trust Co. for $18,000; suburban residence, valued at 
 $8,000; 100 shares Tesla Electric Co., par value $100 
 a share. Three days later you convey the residence 
 as a gift to your daughter. 
 
 3. Wliat books of a mercantile finn should be treated as 
 books of original entry and be posted direct to the 
 ledger? Give an example of an entry that should 
 necessarily be made in the journal. 
 
 4. State the different steps in the process of closing the 
 ledger at the end of a fiscal period and give the rea- 
 son for each step. 
 
 5. Explain the uses and relations of the petty cash book 
 to the principal cash book for a jobbing house and 
 make five illustrative entries. 
 
 6. What is the purpose of a trading account, and what 
 general result should it show? In closing the ledger 
 what disposition should be made of the balance of 
 the trading account? 
 
 7. Explain the theory of good- will. On what basis should 
 good- will be valued? Is good- will a fixed or a float- 
 ing asset? Why? 
 
 8. Give a rule for adjusting partners' accounts (a) when 
 the gains or losses are to be divided in proportion 
 to each partner's investment and the time it remains 
 in use; (b) when the proportion of gain or loss is 
 fixed and interest is calculated on excess or deficit 
 of capital. 
 
 9. What books besides such as are used by individuals 
 or firms are necessary for recording the transactions 
 of an incorporated company? State briefly the use 
 of each book mentioned. 
 
 10. How should inventories be treated in closing the 
 ledger at the end of a fiscal period? Is the common 
 practice of adding the inventory of goods on hand to 
 
EXAMINATION QUESTIONS 239 
 
 the credit side of the merchandise account theoret- 
 ically correct? Explain. 
 
 11. Mention four items of information in addition to 
 those usually shown in the books of a mercantile busi- 
 ness which should appear in a set of books for keep- 
 ing the accounts of a factory. Give reasons for your 
 answer. 
 
 12. What class of expenditures should be treated as assets 
 at the close of a fiscal period? 
 
 13. Define the following items as used in factory account- 
 ing: cost of production, prime cost, general charges, 
 maintenance, stores, stock, stock debit note, store- 
 keeper, writing off. 
 
 14. What is meant by the surplus, or surplus fund, of a 
 stock company? How is this fimd formed? What 
 is its purpose? 
 
 15. Describe a method of keeping the accounts of an ex- 
 ecutor and state what books are necessary for the 
 purpose. 
 
 X. 
 
 1. Explain the theory of double entry bookkeeping, and 
 state the principal advantages of the double entry 
 system. 
 
 2. Into how many classes are ledger accounts usually 
 divided? Mention two of the principal accounts of 
 each class, and state the purpose of each. 
 
 3. Define current assets, current liabilities. Give two 
 examples of each. 
 
 4. Define capital, nominal capital, subscribed capital, 
 paid-up capital, good-will. 
 
 5. Define the following terms: balance sheet, reserves', 
 items in suspense, surplus, impairment. 
 
 6. Describe the merchandise account and its use. State 
 how it should be used in (a) a jobbing or wholesale 
 grocery business, (b) a department store such as that 
 
240 EXAMINATION QUESTIONS 
 
 of Wanamaker or of Siegel-Cooper Co., (c) a manu- 
 facturing firm making agricultural implements. 
 
 7. Describe tlie process of changing a set of books from 
 single to double entry. Draft an example. 
 
 8. What is the purpose of a private ledger? Wliat ac- 
 counts are usually kept in the private ledger? 
 
 9. What difference, if any, should be made between the 
 accounts of a fiinn and the accounts of a corporation 
 in the same line of trade and doing about the same 
 amount of business? Explain. 
 
 10. In preparing accounts for a manufacturing company, 
 on what principle should expenses be divided as be- 
 tween the manufacturing account and profit and loss? 
 Give examples. 
 
 11. In designing a set of accounts for a business, how 
 might provision be made for a constant showing of 
 the aggregate sum owing by customers and the aggre- 
 gate sum owing to creditors, without the necessity of 
 preparing a schedule of the accounts of such cus- 
 tomers and creditors? 
 
 12. In making up the cost accounts on goods produced 
 by a factory, what items of expenditure are to be con- 
 sidered? How should these be combined to show the 
 actual cost of any specified product? 
 
 13. Draft a form of cash book to be used where all re- 
 ceipts are deposited in bank and all payments are 
 made by check. Illustrate the use of this book by 
 three or more entries. 
 
 14. What is meant by a consignment account? How 
 should a consignment account be stated in a balance 
 sheet? 
 
 15. From what accounts is a profit and loss account pre- 
 pared? In what way is its accuracy proved? 
 
 XI. 
 
 1. Robinson & Co., wholesale dealers in notions, whose 
 
EXAMINATION QUESTIONS 241 
 
 books have not been kept by double entry, wish to 
 improve their system of bookkeeping. Write a brief 
 report advocating double entry, setting forth the su- 
 periority of that method generally, and showing by 
 specific references to the mode of bookkeeping em- 
 ployed by them, the advantages that will accrue from 
 the change. 
 
 2. Your suggestions (see Question 1) as to a change of 
 method having been approved by Robinson & Co., you 
 have been instructed to make the change at the close 
 of the fiscal year; state in detail how you would pro- 
 ceed from start to point of proof. 
 
 3. By analysis the debit side of merchandise account 
 shows purchases $60,000, returns to us $4,000, entries 
 offsetting errors in sales extensions $2,000, trade dis- 
 counts to customers $13,500, balance profit $27,000, 
 the credit side shows sales $90,000, returns by us 
 $5,000, allowances to us $1,500, inventory at close of 
 year $10,000. Suggest such change in the method of 
 recording the foregoing statement as would readily 
 show (a) net amount of pui'chases, (b) net amount 
 of sales, (c) percentage of profit. 
 
 4. State generally how the books of a firm doing a manu- 
 facturing business would differ from those kept by 
 a trading concern as to (a) books of record; (b) ledger 
 accounts. 
 
 5. What differences in books and accounts would exist 
 between a partnership and an incorporated company 
 carrying on a similar business? 
 
 6. State the scope and value of the trial balance. In 
 case of failure to prove, how would you proceed to 
 locate the difference? 
 
 7. The building of an insurance corporation valued at 
 $500,000 is mortgaged for $300,000. The rental value 
 of the portion occupied by the corporation is $3,500 
 a year, and there are sixty other tenants in the build- 
 
 'B.VIII— 15 
 
242 EXAMINATION QUESTIONS 
 
 ing. Mention such accounts as should be kept and 
 state the class of transactions to be recorded in each. 
 In what manner and to what extent would the build- 
 ing enterprise be included in the annual financial 
 statement of the corporation? 
 
 8. Outline a statement of assets and liabilities and an 
 annual statement of operations of a manufacturing 
 corporation. State how you would treat each of the 
 following items: (a) interest paid in advance not fully 
 earned, (b) insurance unexpired, (c) interest accrued, 
 (d) outlay of labor and material on goods not fully 
 manufactured, (e) material to be delivered to com- 
 plete contracts up in full, (f) depreciation of plant, 
 (g) provision for future losses on present outstand- 
 ings. 
 
 9. Describe the following accounts and state where and 
 how they are employed: surplus, good- will, treasury 
 stock, maintenance, suspense, dividend. 
 
 10. In a statement of a railway corporation, what is meant 
 by fixed charges, funded debt, floating indebtedness, 
 maintenance of way, maintenance of equipment? 
 
 11. What is the best way of recording customers' jiotes 
 so that the true condition of each account may be 
 shown? What is the most approved way of treating 
 the note receivable account (a) in the ledger? (b) 
 In a statement of affairs? 
 
 12. Arrange a plan for keeping a private ledger with 
 which the general ledger will agree and yet in no way 
 reveal the contents of the private ledger. What mat- 
 ters are usually recorded in the private ledger? 
 
 13. Suggest one or more plans by which an inventory 
 may be corroborated or impeached. 
 
 14. Describe several economies in accounting made pos- 
 sible by the introduction of special columns in books 
 of original entry. 
 
 15. State the full procedure leading up to the entry of 
 
EXAMINATION QUESTIONS 243 
 
 the following transaction in the shares of a corpora- 
 tion, the par value of which is $100: April 5, 1901. 
 James Williamson receives certificate No. 75 for 100 
 shares full paid. May 3, 1901. James Williamson 
 requests a transfer to George T. Jenkins of 30 of his 
 100 shares. Outline a form of stockholders' ledger 
 and properly enter the above items therein. 
 
 XII. 
 
 1. On what general principles is double entry bookkeep- 
 ing based? State briefly a general formula for the 
 correct recording of business transactions. 
 
 2. Two persons exchange with each other their respective 
 notes for $1,000 each; what would be presumably the 
 object of such exchange? What are the risk and the 
 limit (in amount) of risk of each party to the transac- 
 tion? How should such a transaction be recorded? 
 
 3. A retail book store agrees to deliver certain sets of 
 books at $20, on payment of $2 down, the purchaser 
 agreeing to make $3 pajrments for each of the six 
 months next following. It is expected that sales on 
 this plan will aggregate several hundred sets. Sug- 
 gest a method of keeping the accounts, so that re- 
 sults may be readily shown. 
 
 4. Give all the stages in closing the books of a mercan- 
 tile corporation from the time they are fully posted 
 to the completion of the financial statement. 
 
 5. Describe several methods of recording discounts on 
 accounts as paid, avoiding misstatement of receipts 
 and disbursements. State the advantages or disad- 
 vantages of the methods proposed. 
 
 6. Outline an entry recording bond interest due but not 
 paid at time of making the entry. Wliat are the ad- 
 vantages of such an entry? 
 
 7. Mention other items which could be treated in a way 
 
244 EXAMINATION QUESTIONS 
 
 similar to that suggested for interest in question 6 
 and state the advantages of such treatment. 
 
 8. Give several methods of keeping the records of petty 
 accounts with infrequent customers. 
 
 9. What should be the procedure in stating the value 
 of stock on hand at the time of a fire, the financial 
 books being intact and showing the amount of an 
 inventory taken four months previous to the fire ? 
 
 10. Give cases where it is proper to include in a state- 
 ment of assets and liabilities certain receipts and dis- 
 bursements not occurring in the period under review. 
 
 11. On what are the accounts of an executor based ? In 
 preparing his account, with what does the executor 
 charge himself and for what does he claim credit? 
 
 12. How should entries be made of notes receivable in 
 the account of a customer whose credit is limited to 
 a fixed maximum, so that his account will show at 
 all times the amount for which his order may be ac- 
 cepted? 
 
 13. How should entries be made of the discount at the 
 bank of notes received under circumstances outlined 
 in question 12? What entry should be made as the 
 notes are paid at maturity? 
 
 14. State cases where the condition known as ^'diminish- 
 ing assets" is likely to arise. How should such cases 
 be treated? 
 
 15. You are called on to assume the duties of general clerk 
 and bookkeeper in an establishment where the ac- 
 
 • counting has been very meager and primitive; state 
 the steps that you would take to reform existing con- 
 ditions. 
 
SECTION B. 
 ACCOUNTING TERMINOLOGY* 
 
 The accounts of American states and of the "city cor- 
 poration" of the larger municipalities are readily sepa- 
 rable into two groups: (1) The accounts kept by the 
 general fiscal officers, such as those called treasurers, aud- 
 itors, or comptrollers, for the state or city as a whole; and 
 (2) those kept by the executive officers of the several di- 
 visions of the Government for their departments, bureaus, 
 or offices. The accounts last mentioned differ radically 
 from those kept by the fiscal officers first referred to, and 
 no description of or statement concerning accounts belong- 
 ing to the first group is applicable to those included in the 
 second; hence in any discussion of governmental accounts 
 the two groups should be carefully differentiated, and state- 
 ments concerning governmental accounts should specifical- 
 ly set forth the group to which reference is made. To 
 facilitate this differentiation accounts kept by the treas- 
 urer, auditor, or comptroller for the state or city as a whole 
 are here called general accounts, and those kept solely for 
 or by individual departments, bureaus, or offices are called 
 departmental accounts. 
 
 Accounts of Proprietors and Trustees. — The accounts 
 ordinarily used in private business at the present time 
 are of two distinct types, according to the nature of the 
 business for which they are devised and installed. The 
 most common type is that employed by corporate and indi- 
 
 * From Statistics of Cities, U. S. Census Office. 
 
 345 
 
246 ACCOUNTING TERMINOLOGY 
 
 vidual enterprises whicli are conducted primarily for profit 
 or gain, and whose accounts are records of the rights or 
 interests, liabilities, gains, and losses of the proprietors; 
 while the other t3^pe of accounts is employed by corpora- 
 tions and individuals engaged in administering the affairs 
 of others and not of themselves. Accounts of the first 
 type are called by Mr. Charles E. Sprague, in ^'The Philos- 
 ophy of Accounts," proprietorship accounts; and those of 
 the second, fiduciary accounts. The business of many indi- 
 viduals and corporations includes transactions for the bene- 
 fit of the proi^rietor and for the benefit of others. In such 
 cases, the principal accounts are always proprietorship ac- 
 counts, while the others are in reality fiduciary in charac- 
 ter. 
 
 All departmental accounts of governments are fiduciary 
 in character and constitute the best examples of fiduciary 
 accounts to be met with either in governmental or in private 
 business. They show on one side the amounts of money 
 or credit placed at the disposal of the department, bureau, 
 or office, and on the other (1) the expenditures made; (2) 
 the reservations of the appropriations for contracts, market 
 orders, or other purposes; and (3) the free or unencum- 
 bered balances of the appropriations. 
 
 The general fiscal officers of our American states and 
 municipalities are required to keep fiduciary accounts with 
 appropriations. In addition, they must keep accounts vnth 
 other financial data relating to revenues, the receipt and 
 ■pajjnent of cash, public properties, and indebtedness. The 
 general accounts of most cities wdth their appropriations 
 are not combined with, nor even closely associated with, 
 the accounts last mentioned, although in the accounting 
 systems of a few cities the two classes of accounts are 
 combined under appropriate controlling accounts. The 
 general appropriation accounts of the cities of the former 
 class are duplicates of the departmental accounts, and, 
 like them, are models of fiduciary accounting. Of the cities 
 
ACCOUNTINa TERMINOLOGY 247 
 
 which combine the two classes of accounts the greater 
 number employ fiduciary accounts of a type that originated 
 in the earlier stages of governmental business. A smaller 
 number employ fiduciary accounts so arranged as to make 
 them of greater administrative value, and a few are install- 
 ing proprietorship accounts. Experience will be required 
 to determine the relative administrative value of the dif- 
 ferent systems of accounts mentioned. 
 
 Differences in General Governmental Accounts. — ^In 
 addition to the differences above mentioned, the general 
 accounts of American cities vary greatly in character, in 
 methods, and in the bookkeeping devices employed, of 
 which but few are to any extent common to the different 
 cities, and fewer still are universally used in private busi- 
 ness. In some cities, the only books of general accounts 
 are those of the treasurer; in others, additional general 
 accounts are kept by the comptroller or by whatever other 
 officer exercises the duties of a comptroller or auditor. In 
 the great majority of the cities of the latter class, the books 
 of the comptroller are in some of their essentials the same 
 as those of the treasurer, and include accounts with the 
 treasurer, which are a check upon his transactions. The 
 accounts of both officers have one feature in common with 
 the accounts of private enterprises, in that they always 
 record the flow of cash into and out from the treasury. 
 Moreover, they record this information by methods that 
 are primarily devised to show whether any of the money 
 received is lost or is applied to purposes other than those 
 contemplated by the legislative bodies authorizing its col- 
 lection and expenditure. 
 
 The fundamental differences in the general accounts of 
 American cities have the same origin as the correspond- 
 ing differences in the accounts of private enterprises, in 
 that they arise from the varying uses to which the accounts 
 are applied in the administration of business. At first 
 governmental as well as private accounts were largely 
 
248 ACCOUNTING TERMINOLOGY 
 
 records of debts — the amounts owed to a government or 
 private proprietor and the amounts owed by it or by him. 
 The accounts were kept for the administrative purpose of 
 assisting in collecting all amounts due and of meeting all 
 obligations when the same matured. A step forward was 
 taken in private business when accounts were arranged, 
 kept, and summarized in such a way that in addition to 
 providing the information already obtained from the earlier 
 records they embodied all the fundamental requirements 
 of modern accounting for proprietorship by disclosing the 
 condition of business at specified times, and the gains and 
 losses for specified periods. Similar progress was made 
 in accounting for constitutional governments when their 
 general financial records were so arranged that, in addition 
 to recording all the data included in the earlier accounts, 
 they introduced all the requisites of correct fiduciary ac- 
 counting by exhibiting the cash and other resources avail- 
 able for expenditure at any given time, and the fidelity 
 with which expenditures have been made in conformity; 
 with the terms of appropriation acts. 
 
 Modem Administrative Uses of Accounts. — ^Within the 
 last fifty years accounting has become in most countries 
 a distinct profession, and accounts are now applied as ad- 
 ministrative aids both to private and to governmental busi- 
 ness in ways never dreamed of by former generations. The 
 earlier accounts, to which attention has been called, have 
 not been neglected or displaced, but have assumed their 
 position in more comprehensive schemes introduced by thei 
 most progressive private and public administrators. 
 
 The modem innovations in accounts are those which 
 provide for the classification and analysis of financial data 
 and their arrangement in statistical forms so as to show, 
 in private business, when and how money is gained and 
 when and how it is lost; and to disclose and measure in 
 governmental business the relative efficiency and economy 
 of every branch of service. In private business, an analy- 
 
ACCOUNTINa TERMINOLOGY 249 
 
 sis of revenue is made in order to determine the adequacy 
 of rates for various services and commodities, and every 
 factor of business administration is brought under account- 
 ing control by means of what the business world now knows 
 as *^cost accoimting." It is by such methods that the lead- 
 ers in modern private business have made accounts and 
 accounting of supreme administrative assistance in avoid- 
 ing bad and securing good financial results. Their ac- 
 counts are the ideal ones of the business world, and demon- 
 strate the great part that accounting records can play in 
 securing success and avoiding failure. In like manner, a 
 few governmental officials have introduced general and de- 
 partmental accounts which accomplish for nations, states, 
 and municipalities what the analytical and statistical ac- 
 counts above described accomplish for private enterprises. 
 Their accounts are so arranged as to provide adequate 
 accounting control over revenue, to aid in preventing waste 
 or loss thereof in collection, and to apply the principles 
 of private cost accounting for the purpose of testing the 
 efficiency and economy of all branches of governmental 
 service. 
 
 In passing, it should be said that only a limited num- 
 ber of private concerns have developed and applied ac- 
 counts of the largest possible administrative value, and 
 in like manner only a few governments and governmental 
 officials have shown themselves fully awake to the value 
 of accounts as aids to good government. Hence there are 
 great differences in the administrative uses to which gov- 
 ernmental accounts are applied, and, as an inevitable re- 
 sult, great differences in the economy and efficiency of 
 local governments. This condition will continue until, with 
 other changes and reforms, the general and departmental 
 accounts of all cities are so arranged as to measure and 
 test the efficiency of governmental administration, as well 
 as the fiduciary responsibility or accountability of muni- 
 cipal officers. To attain fully the results here mentioned, 
 
250 ACCOUNTINa TERMINOLOGY 
 
 the accounts of different governments of the same class — • 
 as those of states, counties, cities, and towns — must be 
 arranged on such bases as will readily permit the experi- 
 ence of each to be compared with that of all the others. 
 
 New Systems of American Governmental Accounts. — 
 A considerable number of American cities, actuated by a 
 desire to make their financial records of as much admini- 
 strative assistance as are those of the most progressive 
 private enterprises, have within the last ten years intro- 
 duced new systems of general accounts. The great major- 
 ity of these systems can best be described as experimental 
 or tentative, since they are being applied to a field hitherto 
 undeveloped by accountants. There is no uniformity in 
 the systems thus introduced, and their value must be 
 measured by standards other than those of uniformity and 
 the possibility of comparing the expenses and outlays of 
 one city with those of others. The experience of the sev- 
 eral cities introducing these new accounts has, however, 
 on the whole, been fruitful of much good, and out of it no 
 doubt will soon be evolved systems of accounts which will 
 give to governmental officials and the public interested in 
 governmental affairs the same aid that the most successful 
 business man secures from the accounts of his private 
 business. 
 
 The general accounts thus far introduced may be said 
 to be of two distinct types: One in which the principal or 
 controlling accounts, in addition to those with appropria- 
 tions, are those with cash receipts and payments, here 
 spoken of as accounts based on cash transactions; and the 
 other, in which they are accounts with amounts accruing, 
 as revenue or otherwise, to the benefit of the city, and 
 with the accruing expenditures of the city, here referred 
 to as accounts based on accruals. Accounts of the former 
 type are the more numerous. That fact, and the further 
 fact that the older forms of general accounts, still in use 
 by the majority of cities, are of the same type, compels 
 
ACCOUNTINa TERMINOLOGY 251 
 
 the Bureau of the Census to arrange its statistics upon 
 the basis of cash receipts and payments. 
 
 Comparable Statistics, How Secured. — A limited num- 
 ber of cities employing the older forms of general accounts, 
 and some of those which have installed improved accounts 
 of the type first mentioned above — that is, accounts based 
 on cash transactions — prepare exhibits of receipts and pay- 
 ments in such a manner as to permit comparisons of their 
 costs of government with those of other cities. These cities 
 make use of accounting for the purpose of measuring the 
 efficiency and economy of administration to a larger ex- 
 tent than do any others. The financial statistics contained 
 in this report are arranged on a basis which, in its essen- 
 tials, is identical with that employed by such cities. So 
 far as these statistics realize the object for which they 
 are prepared— the object set forth in the opening para- 
 graph of this introduction — they become of assistance in 
 providing accounting tests and measures of the efficiency 
 of the administration of American cities. They secure 
 this result by employing accounting devices which have 
 been introduced by many municipal fiscal officers, and 
 which consist of more or less detailed exhibits of receipts 
 classified by source and of warrant payments classified 
 by object. The classification of these receipts and pay- 
 ments into real or actual, and nominal, and the subdivision 
 of real or actual receipts or payments into those which are 
 and those which are not available for meeting the costs 
 of government, furnish an approximate statement of the 
 cost of operating the government of a city and of main- 
 tainins: its several functions; and if all the bills are pre- 
 sented when due and are settled at once by the issue of 
 warrants to be paid in the immediate future, such a classi- 
 fication also shows the relation between warrant expendi- 
 tures and receipts. 
 
 In some cities, however, large numbers of warrants or 
 orders having the authority of warrants, are paid in a year 
 
252 ACCOUNTING TERMINOLOaY 
 
 subsequent to that of issue. In such cities, the problem 
 of securing from the books of the treasurer or comptroller 
 a statement of the cost of governmental operation and 
 maintenance and of expenditures for the acquisition or con- 
 struction of permanent properties is more difficult. Under 
 such conditions the classified exhibit of the treasurer's 
 transactions may show for one year no payments for the 
 support of a certain function, as the police or the schools; 
 while for the next year it may show disbursements twice 
 as great as the actual cost of maintenance. In such cities, 
 the aggregate of warrants drawn in settlement of claims 
 more nearly represents the cost of governmental opera- 
 tion and maintenance and the expenditures for permanent 
 properties than does the aggregate of warrants paid. Yet 
 a tabulation of warrants drawn, combined with a state- 
 ment of receipts, does not furnish a complete exhibit of 
 the financial transactions of a given year, for the reason 
 that it does not include a statement of the warrants or 
 bills payable drawn in previous years but liquidated dur- 
 ing the current year. Hence, from the standpoint of gov- 
 ernmental accounting, such a presentation is as imperfect 
 as would be a trader's accounts from which were omitted 
 outstanding liabilities for merchandise purchased. To 
 make an approximately complete exhibit, for a given fiscal 
 year, of the financial transactions of cities of the class re- 
 ferred to in this paragraph, not only must the comptrol- 
 ler's record of warrants drawn during the year be pre- 
 sented, but also the treasurer's statement of warrants paid 
 or liquidated during the year must differentiate the 
 amounts paid on warrants outstanding at the beginning 
 of the year from the payments made on those drawn during 
 the year. On this basis the census statistics of payments 
 and receipts of cities are compiled. 
 
 Need for Uniformity in City Accounts and Reports. — 
 The compilation of comparable financial statistics of cities 
 is at the present time attended with many difiiculties and 
 
ACCOUNTINa TERMINOLOGY 253 
 
 large expense, owing to differences in tlie accounting sys- 
 tems and methods of the various cities. The movement 
 toward the uniform classification of payments and receipts 
 inaugurated by the National Municipal League gives prom- 
 ise of a reduction of these difficulties and of the accompany- 
 ing expense. The publication of the census reports pre- 
 senting the financial statistics of cities has given the move- 
 ment a great impetus, but the publication of these reports 
 will not alone suffice to render easy of attainment compar- 
 able financial statistics of cities. Before that end can be 
 secured, accountants and governmental officials must reach 
 some common understanding as to the fundamental prin- 
 ciples of governmental business and accounting, as ac- 
 countants have already done with reference to the funda- 
 mental principles of commercial accounting. That result 
 can be secured only as the outcome of study and intelligent 
 discussion of these principles. 
 
 Need for Correct Methods of Conducting Municipal 
 Business. — Uniform accounts and reports, if secured as 
 outlined above, will be of great assistance in compiling 
 comparable statistics that will measure the relative econ- 
 omy and efficiency of city governments. Such accounts 
 and reports alone will not, however, provide the data for 
 the desired statistics. Before such statistics can be com- 
 piled, city governments must not only establish uniform 
 accounts and make uniform reports, but they must also 
 adopt correct and uniform methods of transacting their 
 financial business. Mention has been made of the differ- 
 ence between exhibits of governmental expenditures based 
 respectively upon warrants or orders issued and upon war- 
 rants or orders paid; that difference is material, but as a 
 factor in modifying the comparability of the statistics 
 obtained for the different cities it is eliminated by the 
 method adopted by the Bureau of the Census and already 
 described. The same cannot be said concerning an inac- 
 curacy that arises in the census exhibit for cities with 
 
254 ACCOUNTING TERMINOLOGY 
 
 certain faulty business methods, and with no proper busi- 
 ness system of auditing bills or issuing warrants. In some 
 of these cities, bills are in reality audited by approval of 
 the city council, some being audited promptly when pre- 
 sented, while others are not approved until a considerable 
 length of time thereafter. Similar variations in the time 
 elapsing between the presentation and the audit of claims 
 occur in other cities having auditors or comptrollers with 
 nominal powers of adjusting all claims. In neither case 
 are warrants or audited bills for a given period true ex- 
 hibits of the costs of government for that period, so that 
 W'hether exhibits of governmental expenditures are based 
 upon warrants issued, as are those now compiled by the 
 Bureau of the Census, or upon audited bills, the statistics 
 for such cities will fail to be comparable with those for 
 other cities which have adopted correct business methods. 
 This condition of affairs will continue until cities are com- 
 pelled by state law — if they will not do so by their own 
 initiative — to employ business methods of auditing bills 
 when due, and to pay those bills promptly by the issue of 
 warrants on the treasury. Such an improved method of 
 conducting the finances of cities would accomplish two very 
 important results — it would render possible the compila- 
 tion of statistics which would measure the relative effi- 
 ciency and economy of municipal administration, and at 
 the same time eliminate one of the most potent single 
 factors in governmental graft and dishonesty. 
 
 Need for a Common Terminology in Accounting. — ^The 
 subjects of correct and uniform accounting and of improved 
 business methods for cities and their industries, and for 
 public service corporations under national or state super- 
 vision and control, are of great popular interest, and many 
 accountants, economists, governmental officials, and public 
 w^riters are giving them earnest thought. The average 
 accountant is, however, of necessity, devoting most of his 
 attention to improving the methods of accounting and 
 
ACCOUNTINa TERMINOLOGY 255 
 
 business administration in accordance with his own ideas; 
 he is working out his own schemes without seeking the 
 co-operation of others. The result is that, while better 
 accounting and more efficient business methods are being 
 introduced both in publicly and privately owned enter- 
 prises and in governmental business as a whole, the country 
 is not securing uniformity as rapidly as is desirable. 
 
 Uniformity in systems of accounting must be based 
 upon a common language of accounts — that is, upon the 
 use of a common terminology. To aid in securing that 
 uniformity, the schedules and schemes of accounts should 
 be accompanied with definitions of each accounting term 
 employed, and the reason for adopting that term, where 
 the usage of the commercial world and governmental world 
 is not uniform. The publication and discussion of such 
 definitions and explanations will open the way for the 
 final selection of those terms which are best adapted for 
 securing improved and uniform governmental accounts and 
 reports. 
 
 Accounts. — Accounts are exhibits of financial transac- 
 tions with individuals — natural, corporate, and govern- 
 mental — and of financial data relating to various subjects, 
 set forth by counter entries called debits and credits. 
 
 Accounting. — Accounting is the art of applying accounts 
 as aids in the administration of business, or the science 
 of analyzing, recording, and summarizing data relating 
 to business in such a way as to disclose its condition or 
 state at any given time, to express the results of its opera- 
 tion for any given period, and to furnish all other informa- 
 tion that such analyzing, recording, and summarizing can 
 provide for its systematic and most successful adminis- 
 tration. 
 
 Attention has already been called to the progressive 
 development of this science and the application of its 
 principles in the fields both of private and of governmental 
 business, and to the two different types of general govern- 
 
256 ACCOUNTINa TERMINOLOGY 
 
 mental accounts employed at the present time by American 
 cities. In general accounts of the type most frequently 
 used by governments in the United States — accounts based 
 on cash transactions — the principal or controlling accounts 
 supplemental to the appropriation accounts are those sum- 
 marizing the receipts and payments of cash, while in 
 general accounts of the other type — accounts based on ac- 
 cruals — the corresponding controlling accounts are those 
 summarizing amounts accruing for the benefit of the Gov- 
 ernment and those summarizing the accruing expenditures 
 of the Government. Notwithstanding this difference, the 
 two types of accounts, if they are to be of equal adminis- 
 trative assistance, must record and summarize substan- 
 tially the same facts and deal with the same accounting 
 entities. Under such circumstances uniformity in the use 
 of accounting words and phrases will contribute much to 
 the value of accounts of both types, and render the ac- 
 counts of each type more intelligible to those employing 
 accounts of the other type. Attention is first called to the 
 financial data that must be included in a correct and com- 
 plete summary of governmental financial conditions and 
 to the definitions of the terms commonly employed by the 
 Bureau of the Census in speaking of those data. 
 
 Assets. — The assets of an individual corporation or 
 government are the properties or wealth — including rights 
 of action, franchises, good- will, and other rights having a 
 money value — in its possession or control or at its dis- 
 posal. The term is employed with the significance stated 
 in fiduciary accounting as well as in accounting for pro- 
 prietorship. 
 
 Economists, in speaking of wealth used for productive 
 purposes, or of the wealth represented by the assets re- 
 corded in the proprietorship accounts of gainful enter- 
 prises, always use the word ** capital." The same word 
 is sometimes employed as an accounting term in referring 
 to the wealth last mentioned, but should never be used 
 
ACCOUNTING TERMINOLOGY 257 
 
 in referring to the wealth in the control or custody of an 
 individual, corporation, or government as trustee. 
 
 Classification of Assets. — In accounts, assets are always 
 represented by debit entries and balances. Some of the 
 debit entries and balances in the asset accounts of corpora- 
 tions and governments represent wealth actually in their 
 possession or control, or at their disposal; and others rep- 
 resent the claims of one division or branch of the business 
 or service upon another, or are in other ways offsets to 
 the credit balances of liability, capital stock, surplus, 
 revenue accumulation, or other accounts, being amounts 
 recorded in so-called asset accounts to assist in securing 
 accounting control over governmental appropriations or for 
 other purposes. The amounts represented by the first class 
 of entries are here called actual assets to distinguish them 
 from those represented by the second class, which are here 
 called nominal assets. Nominal assets which consist of 
 wealth not now in the possession or control or at the dis- 
 posal of an individual, firm, corporation, or government, 
 but which under certain conditions may come into such 
 -possession or control, or be placed at such disposal, are 
 generally called contingent assets. 
 
 When classified according to their relation to the 
 principal purposes of the business in which they are used, 
 the actual assets of private enterprises, governmental de- 
 partments, and governments are given the specific designa- 
 tions of current, invested, and fixed assets. 
 
 The current assets of a governmental department, 
 bureau, or office are the amounts of money which by the 
 terms of appropriation acts or ordinances it is authorized 
 to expend, while the current assets of a government are 
 the resources or wealth which have been acquired or pro- 
 vided for meeting the cost of those materials and services 
 which constitute its current expenses, interest, outlays, and 
 investments, and for meeting all other claims of creditors 
 and trust beneficiaries that mature or become due dur- 
 
 B— VIII— 17 
 
258 ACCOUNTING TERMINOLOGY 
 
 ing any given fiscal period. The current assets of govern- 
 ment include cash, materials and supplies, authorized but 
 uncollected revenues, prepayments, advances, and accounts 
 and bills receivable. The accounts of most governments 
 with their current assets include considerable amounts of 
 nominal assets in the form of uncollectible revenues not 
 properly written off. All other amounts recorded in such 
 accounts representing actual wealth in their possession or 
 control constitute their *' current assets." 
 
 Invested assets, or investments, are those resources or 
 forms of wealth which have been acquired and are held 
 by private enterprises and by governments for purposes 
 other than those for which they were organized and are 
 maintained. Among the many purposes for which invest- 
 ments may be acquired and held are those of securing an 
 income from their use, of deriving gain from their rise in 
 value, of avoiding losses that otherwise would be suffered, 
 and of securing other business advantages that may seem 
 possible through their acquisition and possession. The 
 principal nominal invested assets recorded in American 
 governmental accounts are the debt obligations of the Gov- 
 ernment held by its sinking funds and other funds with 
 investments. All investments other than the securities 
 above mentioned are ^'actual investments" or ^'actual in- 
 vested assets." 
 
 Funds is a common designation of the invested and 
 current assets of governments. They are the amounts of 
 money or other forms of wealth devoted to or available 
 for specified purposes. Governmental funds are of three 
 classes — general, special, and trust. 
 
 A general fund is one that is not specifically limited 
 as to the source from which its stock of wealth or resources 
 is derived, nor as to the object for which that stock may 
 be disbursed. It is a fund that includes money or other 
 forms of wealth which is derived from many sources and 
 which is to be expended for many objects. 
 
ACCOUNTINa TERMINOLOGY 259 
 
 A special fund is one whose assets or resources are 
 derived from a specified source or are to be applied to a 
 designated object. 
 
 A trust fund in private business and accounts is a fund 
 the legal title of which is vested in a trustee who holds it 
 subject to the rights of others to enjoy certain benefits 
 arising therefrom. In governmental business and accounts, 
 where all funds may be considered as "trust funds," as 
 above defined, a trust fund is a "special fund" whose as- 
 sets consist of wealth held for non-governmental uses, or 
 wealth obtained by donations or grants for specified gov- 
 ernmental uses. 
 
 To constitute a governmental special or trust fund, the 
 resources or assets belonging thereto must be separated 
 from the body of other assets or resources, and accounts 
 must be kept showing all facts relating to the acquisition, 
 present status, and disposition of such resources. Govern- 
 mental assets separated from other assets and held for 
 specified purposes in such manner as to constitute a special 
 or trust fund, are said to be "reserved," and are therefore 
 called reserved assets or asset reserves, and the funds are 
 frequently spoken of as "reserve funds." 
 
 Accounts with general, special, and trust funds are 
 properly spoken of as fund accounts, and each receives 
 a specific designation according to the character of the 
 fund and the purposes for which its assets are reserved. 
 
 Cash. — The money and bank credits belonging to an 
 enterprise or government are generally spoken of as cash. 
 "Cash" set apart in trust and other special funds for 
 specified purposes is here spoken of as trust and special 
 cash, or reserved cash. All other cash is called general 
 fund cash or general cash. 
 
 For a statement as to the nature of the current assets 
 here spoken of as "authorized but uncollected revenues," 
 see a later page under "revenues." 
 
 Materials and supplies is the general designation em- 
 
260 ACCOUNTINa TERMINOLOaY 
 
 ployed by accountants for all tangible things in the posses- 
 sion of a government or an enterprise which have been 
 acquired and are held by it for consumption in operation 
 or construction, or for sale. 
 
 Prepa>^nents are amounts of money, or money's worth, 
 which have been expended in meeting costs which are 
 properly chargeable as expenses or interest of the future 
 and not of the present or the past. 
 
 Advances are amounts of money, or money's worth, 
 placed in the hands of fiscal officers or agents to be dis- 
 bursed in meeting expenses, outlays, and indebtedness, or 
 for making investments in the future. 
 
 Bills receivable are amounts of money, or money's 
 worth, due from individuals, corporations, or governments 
 for the payment of which formal acknowledgments in writ- 
 ing are held, while accounts receivable are similar amounts 
 due for which no such acknowledgments are held, and 
 which are represented principally or solely by entries in 
 current accounting records. In governmental accounting, 
 bills and accounts receivable should be carefully dis- 
 tinguished from uncollected revenues. 
 
 Fixed assets are those resources or forms of wealth 
 employed in the accomplishment of the principal purposes 
 of private enterprises or of governments which have an 
 expectation of life in service of more than one year. The 
 fixed assets of governments include those forms of wealth 
 used for governmental purposes which are generally called 
 properties, street improvements, and sewers. 
 
 Properties is the designation here employed by the 
 Bureau of the Census in referring to land used for gov- 
 ernmental purposes other than for highways, to buildings 
 and other more or less permanent structures on such land, 
 and to furniture, tools, apparatus, and other equipment 
 having a life in service of more than one year, other than 
 hand tools and other small portable tools which may be 
 lost or stolen and of which no accounting record is kept. 
 
ACCOUNTINa TERMINOLOGY 261 
 
 These properties are further classified as productive or 
 non-productive. Productive properties include lands, build- 
 ings, structures, furniture, tools, and apparatus and other 
 equipment of governments that are used in connection with 
 the operation of public service enterprises. All other prop- 
 erties of governments are spoken of as non-productive. 
 
 Street improvements is a designation used by the 
 Bureau of the Census in speaking of the land employed 
 for highway purposes belonging to governments, and the 
 structures and improvements upon such land, including the 
 pavements, sidewalks, curbs, bridges, tunnels, grades, and 
 fills for highway purposes. Under the term sewers are 
 included not only the structures bearing that name, but 
 all such structures as manholes, catch basins, etc., form- 
 ing parts of the sewer system. 
 
 When the accounts of governments with ''properties," 
 ''street improvements," and "sewers" are properly kept, 
 those accounts always record "actual assets." When, how- 
 ever, through imperfect accounting procedure the accounts 
 assign to the properties, street improvements, sewers, etc., 
 values greater than the actual cost of reproducing them 
 in as good condition as they exist, the excess values re- 
 corded are "nominal assets." 
 
 Asset Accounts. — When a government employs the 
 type of general accounts here designated "accounts based 
 on accruals," the controlled accounts, other than those 
 with appropriations, include, in theory at least, a record 
 of all the assets above mentioned. It is quite otherwise 
 with "accounts based on cash transactions." The con- 
 trolled accounts on that basis seldom include a record of 
 any assets other than cash and investments. All other 
 assets, if recorded, are, in the great majority of cities using 
 accounts based on cash transactions, recorded in what are 
 generally known as "supplementary or uncontrolled ac- 
 counts." In both types of accounts the term "asset ac- 
 
262 ACCOUNTING TERMINOLOGY 
 
 counts" is applied to the controlled accounts in which 
 assets are recorded. 
 
 A study of the asset accounts of a large number of 
 American cities leads the officials in charge of the census 
 statistics of cities to the conclusion that proper account- 
 ing for assets may be secured with either type of accounts, 
 and that the use of neither type necessarily does away 
 with faulty accounting. Very few cities, whatever the 
 type of accounts which they employ, have any trustworthy 
 record of the cost or present value of their "properties," 
 and a smaller number have any intelligible or trustworthy 
 exhibit of the original cost of their "street improvements" 
 and "sewers," or of the present cost of reproducing them, 
 and few have any definite statement of the probable 
 amount to be realized from their uncollected revenues. So 
 long as this state of affairs continues, the accuracy with 
 which the asset accounts of any given government record 
 the actual assets of that government will measure the ad- 
 ministrative value of those accoimts far better than the 
 mere fact that the accounts are kept on the basis of cash 
 transactions or of accruals. 
 
 In passing, it should be noted that considerable prog- 
 ress has been made in this branch of accounting during 
 the last few years. The Bureau of the Census has con- 
 tinuously emphasized the importance of having correct 
 information with reference to the value of governmental 
 properties, street improvements and sewers, etc. As the 
 result of this action, it has been able each year to make 
 its statistics of the value of governmental properties more 
 trustworthy than those of any previous year, although even 
 now they are confessedly far from perfect. The Bureau 
 of the Census, however, has not included in any preceding 
 report statistics of the value or cost of street improve- 
 ments and sewers, since it has not in previous years deemed 
 the data obtained with reference to these subjects suffi- 
 ciently trustworthy to warrant publication. For a similar 
 
ACCOUNTINa TERMINOLOGY 263 
 
 reason it has hitherto omitted all statistics of uncollected 
 revenues. A correct statement of cash and investments 
 can be made without any exhibit of properties and street 
 improvements and sewers, but summaries of financial con- 
 dition, which include on their debit side only exhibits of 
 the two classes of assets above mentioned, are not com- 
 plete statements of governmental financial condition. They 
 are, however, of far greater administrative value than 
 more pretentious summaries of financial condition, which 
 include incorrect statements of the actual value of the sev- 
 eral classes of governmental resources. The first requisite 
 in this field is a correct exhibit of assets, so far as any 
 presentation of their value is given at all. The extension 
 of accounting control over fixed assets may therefore with 
 profit be deferred until correct statements of their value 
 have been prepared. 
 
 Liabilities. — In law, liabilities are primarily the obliga- 
 tions and responsibilities of individuals, corporations, and 
 governments to pay, deliver, hold, use, or expend money, 
 or money's worth in the form of land or goods, or to render 
 specified services. The term is also used in speaking of 
 amounts of mone}^, or money's worth in the form of land, 
 goods, or services which individuals, corporations, and gov- 
 ernments are under obligations to pay, deliver, or render, 
 or for whose use, payment, or expenditure they are 
 responsible. 
 
 Classification of Liabilities. — ^In accounts, liabilities are 
 represented by credit entries and balances. The greater 
 number of such entries and balances in the liability ac- 
 counts of enterprises and of governments represent the 
 legal liabilities or actual liabilities above described, which 
 are in a broad, general way separable into two classes called 
 debts and trusts, or debt liabilities and trust liabilities. 
 These liability accounts also contain the record of amounts 
 w^hich represent neither debts nor trusts, but constitute 
 what are here called nominal liabilities. 
 
264 ACCOUNTINa TERMINOLOGY 
 
 Debts. — In law, debts or debt liabilities are primarily 
 the obligations of individuals, corporations, and govern- 
 ments to pay or deliver money, goods, or other wealth to 
 specified parties, their hejrs or assigns, or to perform or 
 render specified services of a money value in their behalf 
 or at their behest. The term is also applied to amounts 
 of money, or money's worth, which have been received 
 and must be paid or delivered as stated. Those receiv- 
 ing and owing the money are called "debtors," and those 
 to whom it is payable are called "creditors." 
 
 Debts or debt liabilities may be classified upon many 
 different bases, and thus may be given many specific des- 
 ignations. Classified according to the provisions made for 
 their payment or liquidation, they are called current debts, 
 funded debts, and floating debts; classified according to 
 the time when due or payable, they are called due and de- 
 mand liabilities, liabilities not due, and liabilities awaiting 
 final determination or adjustment; and classified accord- 
 ing to the character of the instruments or records which 
 evidence the debts, they are called bonds, notes payable, 
 warrants payable, audits payable, and accounts payable. 
 
 Current Debts. — The current debts or current debt 
 liabilities of an enterprise for gain are those that should 
 be met from its current revenues; the current debts or 
 current debt liabilities of a government are those debt 
 liabilities for the payment or liquidation of which provi- 
 sion is fully made by cash on hand, by revenues accrued 
 or accruing, or by other assets provided and appropriated 
 for that specific purpose. 
 
 Funded or Fixed Debts. — The funded or fixed debts, 
 or funded or fixed debt liabilities, of a private enterprise 
 or of a government are those debts evidenced by some for- 
 mal instrument, or in some other manner, which have a 
 number of years to run or upon which interest is to be 
 paid in perpetuity, but for the amortization of which no 
 assets other than those of sinking funds have as yet been 
 
ACCOUNTING TERMINOLOGY 265 
 
 specifically authorized or appropriated. Originally the 
 term "funded debts" was applied only to those debts for 
 whose amortization sinking-fund provisions had been made, 
 but at present the term is used more or less interchangeably 
 with that of fixed debts in speaking of the debt obligations 
 specifically mentioned above. 
 
 Floating Debts. — The floating debts or floating debt 
 liabilities of an enterprise for gain are those liabilities 
 which it has incurred for meeting current costs of opera- 
 tion, but for the liquidation of which it has no available 
 resources; the floating debts or floating debt liabilities of 
 a government are those debts for the payment or redemp- 
 tion of which there is no money in the treasury specifically 
 designated or appropriated, nor any provision made for 
 obtaining such money by taxation or otherwise. 
 
 Current, funded, and floating debts constitute due and 
 demand liabilities, liabilities not due, and liabilities await- 
 ing final determination or adjustment, according as they 
 are payable on demand, at the present time, or at some 
 future time, and according to whether the amount payable 
 has been determined or adjusted or is awaiting such deter- 
 mination and adjustment. 
 
 The term bonds is more or less generally applied to 
 all written evidences of governmental indebtedness given 
 under the seal of the nation, state, or municipality issu- 
 ing them. Less formal written evidences of indebtedness 
 are most frequently referred to by the specific designa- 
 tions of notes payable, warrants payable, and audits pay- 
 able, while the amounts recorded only in accounts are gen- 
 erally called accounts payable. 
 
 Trusts. — In law, trusts or trust liabilities are primarily 
 the obligations of individuals, corporations, or govern- 
 ments to hold, use, or expend money or other wealth in 
 the interest of specified persons or for specified purposes 
 or objects. Those receiving money or other w^ealth in such 
 interest or for such purposes become "trustees" and not 
 
266 ACCOUNTING TERMINOLOGY 
 
 ** debtors," while the persons in whose interest or behalf 
 the money is held, used, or expended are known as 
 ** beneficiaries." 
 
 Trusts are of many kinds, which may be grouped into 
 two general classes: (1) those obligations or responsibili- 
 ties which are strictly called trusts, and (2) those obliga- 
 tions or responsibilities in the nature of trusts which are 
 involved in the relations of agents and principals, of the 
 executors and heirs of an estate, and of assignees and the 
 creditors of bankrupt estates, etc. The trusts belonging 
 to the first class are of two kinds, private and public. 
 
 Private trusts are trusts which concern individuals and 
 families and are limited in duration. They are obligations 
 and responsibilities to hold or use specified amounts of 
 money or other wealth in the interest of specified individ- 
 uals, or to expend the same in their interest or at their 
 behest. In accounting, private trusts are amounts of 
 money, or its equivalent in the forai of land or goods, held 
 for the benefit of specified persons or to be expended in 
 their interest or at their behest. 
 
 Public or charitable trusts are trusts which are con- 
 stituted for the benefit of the public at large, or of some 
 particular portion of this public answering to a particular 
 description, such as the poor, children, etc. They are 
 obligations and responsibilities to expend specified amounts 
 of money or other wealth for specified objects and pur- 
 poses, or to hold the same for such objects and purposes. 
 In accounting, public trusts are amounts of money or other 
 wealth which are held for the benefit or in the interest 
 of an uncertain and sometimes fluctuating body of persons, 
 such as the poor, or the children, or all the people of a 
 given to^\Ti or city. 
 
 Governmental Trust Liabilities.— The obligations of the 
 government to its creditors constitute its debts. The 
 classification of those obligations and the designations ap- 
 plied to them have already been presented. These debts 
 
ACCOUNTINa TERMINOLOGY 267 
 
 constitute claims or demands upon the Government, but 
 they are not the only claims upon the Government. The 
 other claims and demands upon the Government are those 
 represented by private tiTists and by public trusts for non- 
 governmental uses. The most common of the latter class 
 of trusts are those created by the acceptance of money 
 by cities for the care of private lots in cemeteries and for 
 the support of specified churches. These trusts are by 
 some states classified as private and by others as public. 
 But whether legally designated ''private" or "public" 
 trusts, the creation of the trust for one of the purposes 
 specified, like the acceptance of money for the purposes 
 of private trusts, creates claims upon the Government 
 which, like the claims of creditors, are properly recorded 
 under the legal designation "liabilities." The several 
 classes of these governmental trusts creating claims upon 
 the Government should be recorded under descriptive titles 
 which will exhibit the character or the nature or purpose 
 of the claims which they represent. 
 
 Nominal Liabilities. — In accounting, the term "liabili- 
 ties" is universally used, not only as the common desig- 
 nation of legal debts and trusts, but also in referring to (1) 
 amounts of money or other wealth which a private enter- 
 prise or government owes to one of its funds, or which 
 one branch of its business owes to another branch; (2) 
 amounts recorded in so-called "liability accounts" which 
 represent accounting offsets to the debit entries of asset 
 accounts, being amounts recorded in accounts to assist in 
 securing accounting control over specified contract obliga- 
 tions, such as those for maintaining sinking fund reserves, 
 or for other accounting purposes; and (3) amoimts which 
 the enterprise or government may, under specified circum- 
 stances, or subject to specified conditions, be called upon 
 to pay, deliver, or render in the future, but for the pay- 
 ment, delivery, or rendering of which there is no present 
 obligation. Liabilities such as those mentioned above 
 
268 ACCOUNTINa TERMINOLOGY 
 
 under (1), (2), and (3) do not arise from the reception of 
 wealth in any form from others; neither do they constitute 
 claims upon the wealth in the possession or control of the 
 enterprise or government in whose accounts they are re- 
 corded. They are therefore liabilities in name only, and 
 are thus properlj^ spoken of as nominal liabilities. In ac- 
 counting, the nominal liabilities mentioned under (3) are 
 generally called contingent liabilities. 
 
 Proprietary Interests. — In the accounts of enterprises 
 conducted for gain, the claims of creditors and of the 
 beneficiaries of trusts are recorded, as has already been 
 stated, by credit entries in the accounts here called bal- 
 ance sheet accounts, or accounts summed up in the balance 
 sheet. The property rights of the owners or proprietors 
 of the same enterprises, or their equity in their assets, are 
 also recorded in the same group of accounts by credit 
 entries. From the fact that these rights are thus recorded 
 on the same side of the ledger accounts and balance sheets 
 as are liabilities, they have been by many accountants 
 included in the balance sheet under the generic designa- 
 tion * 'liabilities." The objections to this procedure are 
 well stated by Mr. Charles E. Sprague, in '*The Philosophy 
 of Accounts," pages 46 and 47, as follows: 
 
 The rights of others, or the liabilities, differ materially from the rights 
 of the proprietor, in the following respects: 
 
 (1) The rights of the proprietor involve dominion over the assets and 
 power to use them as he pleases even to alienating them; while the creditor 
 can not interfere with him or them except in extraordinary circumstances. 
 
 (2) The right of the creditor is limited to a definite sum which does not 
 shrink when the assets shrink, while that of the proprietor is of an elastic 
 value. 
 
 (3) Losses, expenses, and shrinkage fall upon the proprietor alone, and 
 profits, revenue, and increase of value benefit him alone, not his creditors. 
 
 For these reasons the proprietary interest cannot be treated like the 
 liabilities, and the two branches of the right-hand side of the balance sheet 
 require distinctive treatment. 
 
 In order to distinguish fully between (1) the claims 
 of creditors and trust beneficiaries, upon the assets or 
 properties of an enterprise for gain, and (2) the property 
 rights of the owners or proprietors of such an enterprise 
 
ACCOUNTINa TERMINOLOGY 269 
 
 in these assets or properties, the Bureau of the Census in 
 its schemes of "accounts" arranges the claims mentioned 
 in one group of balance sheet accounts under the common 
 term ''liabilities," as has already been described, and ar- 
 ranges the property rights of the owners or proprietors 
 in a second group of accounts to which it gives the specific 
 designation proprietary interests. In the case of corporate 
 enterprises for gain, the rights last mentioned may also 
 be referred to as corporate capital. 
 
 Classification of Proprietary Interests. — The proprie- 
 tary interests of corporations are vested in their stock- 
 holders, and are represented by certificates of ownership 
 called "certificates of stock," which may be of various 
 kinds and receive different designations, such as "first 
 preferred stock," "second preferred stock," "common 
 stock," etc. The proprietary interests of a private indi- 
 vidual in the property of unincorporated enterprises owned 
 or controlled by him are not evidenced by any formal cer- 
 tificates or other proof of ownership, and may be consid- 
 ered as constituting an undivided whole as contrasted with 
 the collective ownership of the stockholders of corporate 
 enterprises. 
 
 The proprietary interests of stockholders in the prop- 
 erty of corporations and those of individual owners in the 
 property of unincorporated enterprises for gain controlled 
 by them, when considered from a legal standpoint, consist 
 of a single and undivided whole. For accounting purposes 
 these interests, in the case of corporations, are separated 
 into two principal classes which are referred to in the ac- 
 counts as "stocks" and "surplus." Under the term stocks 
 are included that portion of the total proprietary interests 
 of the stockholders represented by the par value of their 
 stocks; while under the designation surplus are included 
 all other proprietary interests. 
 
 When any portion of the proprietary interests of a 
 corporation organized for gain Avhich are represented by 
 
270 ACCOUNTINa TERMINOLOGY 
 
 its surplus is set aside or appropriated for any specified 
 purpose or object, it is said to be reserved, while all other 
 portions of the surplus are said to be unreserved. Re- 
 served surplus is frequently spoken of as surplus reserv^es. 
 These reserves may or may not be associated with "asset 
 reserves," or reservations of assets. When they are thus 
 associated the reservations of assets and of surplus for 
 the same objects or purposes give rise to special funds 
 which are frequently called "reserve funds." The most 
 common purposes for which the proprietary interests of 
 corporations for gain are reserved are for meeting future 
 losses from bad debts, depreciation, casualties, and kindred 
 causes. The reserves themselves always receive designa- 
 tions indicating the purpose or object of the reservation, 
 and separate accounts are always kept with each class of 
 reserves established. 
 
 Reserves that must be kept intact during the life of 
 the corporation are called permanent reserves, and all 
 others are called temporary reserves. Reserves necessi- 
 tated by contracts, such as those relating to sinking funds 
 provided for by mortgages, are called contractual reserves, 
 while reserves not thus necessitated are referred to as non- 
 contractual reserves. 
 
 The proprietary interests of individual owners of un- 
 incorporated enterprises for gain cannot be separated into 
 two portions corresponding to the capital stock and sur- 
 plus of corporations. These interests can, however, be 
 separated into two portions designated respectively as re- 
 serv^ed and unreserved proprietary interests. Under the 
 designation reserved proprietary interests of individual 
 o^vners is included that portion of their property rights 
 in the enterprise controlled by them which has iDeen set 
 aside or reserved for specified purposes. All other prop- 
 erty rights of the owners mentioned constitute their un- 
 reserved proprietary interests. These latter interests cor- 
 respond to the interests represented by the "capital stock" 
 
ACCOUNTINa TERMINOLOGY 271 
 
 and. "unreserved surplus" of corporate enterprises for gain, 
 while the reserved proprietary interests receive specific 
 designations and call for the same procedure in accounting 
 as do the surplus reserves of corporations organized for 
 gain. 
 
 Attention has already been called to the fact that the 
 property rights of the owners of enterprises for gain, or 
 their proprietary interests, are recorded by credit entries 
 in accounts here called proprietary interest accounts. The 
 proprietary interest accounts of the average enterprise for 
 gain not only contain entries representing the actual pro- 
 prietary interests, or entries representing the capital of 
 the proprietors employed in the enterprise, but they also 
 contain amounts recorded by credit entries and balances 
 which represent no actual property rights of the owners, 
 but accounting offsets to nominal assets. These entries 
 are referred to by the Bureau of the Census as nominal 
 proprietary interests. The most common nominal prop- 
 prietary interests recorded in the accounts of enterprises 
 for gain are those entries which represent corporate stock 
 issued by the enterprise and held in its treasury or by one 
 of its funds with investments, and revenue charges await- 
 ing cancellation. Under the latter term are included losses 
 charged as expenses but not written off in the asset ac- 
 counts in which are contained the records of the properties 
 affected by the losses. 
 
 Interests of Beneficiaries. — In the accounting records 
 of colleges, churches, and other charitable institutions the 
 claims of creditors upon the assets of those institutions 
 and the interests of their beneficiaries in such assets are 
 recorded by credit entries in balance-sheet accounts. The 
 property rights represented by these two classes of entries 
 are as distinct and separate in character, one from the 
 other, as are the liabilities and proprietary interests simi- 
 larly recorded by credit entries in the accounts of enter- 
 prises for gain. To be of any great administrative value. 
 
272 ACCOUNTING TERMINOLOGY 
 
 the accounts of these charitable institutions should dis- 
 tinguish between the claims of creditors and the other prop- 
 erty rights mentioned. Fully to accomplish this result, 
 the property rights of beneficiaries in the assets of these 
 institutions are here called interests of beneficiaries, and 
 the claims of creditors against the institutions are given 
 the designation "liabilities," although in a strict legal 
 sense of the word all the interests of beneficiaries may be 
 called liabilities. 
 
 Some of the interests of beneficiaries of colleges, 
 churches, and other charitable institutions result from un- 
 conditioned gifts, that is, gifts for the general purpose of 
 the institution receiving; while others arise from condi- 
 tioned gifts, that is, gifts of money or other wealth to be 
 expended, used, or held for specified purposes or objects, 
 or to be expended, used, or held subject to specified 
 conditions. The interests of beneficiaries represented by 
 the unexpected gifts of the first class are here called un- 
 reserved interests of beneficiaries, while those of the second 
 class are called reserved interests of beneficiaries. Some 
 charitable institutions call the reserved interests last men- 
 tioned ''funds," or ''special funds." The reserved inter- 
 ests of beneficiaries here referred to may also receive many 
 specific designations, according to the special purposes for 
 which the property received by gift has been reserved or 
 the conditions which constitute the reservation. 
 
 Revenue Accumulations of Governments. — The amounts 
 recorded by entries on the right-hand side of governmental 
 balance-sheet accounts and summaries represent in part 
 claims of creditors and of the beneficiaries of private trusts 
 upon the governmental assets, and in part the interests 
 of the citizens and general public in these assets. To dis- 
 tinguish the claims first mentioned from the interests last 
 referred to, as must be done to secure any assistance from 
 accoimts in the proper administration of governmental 
 finances, the interests last referred to should be given some 
 
ACCOUNTINa TERMINOLOGY 273 
 
 specific designation. If the state or municipality is con- 
 sidered as a proprietor and the accounts installed for the 
 guidance of its administration are proprietorship accounts, 
 the interests may be given the same designation as in the 
 case of enterprises for gain, that is, "proprietary inter- 
 ests." If, however, the accounts of the state or municipal- 
 ity are fiduciary in character, the interests here referred 
 to may properly be called interests of governmental bene- 
 ficiaries. A designation that is applicable for both classes 
 of accounts, and which is, therefore, better in most respects 
 than either of those given above, is one which recognizes 
 the origin and character of these interests. That designa- 
 tion is revenue accumulations. The term calls attention 
 to the fact that the interest of the citizens or general pub- 
 lic in the assets of a government represent the revenues 
 of the past that have not been expended in meeting the 
 current costs of governmental maintenance. 
 
 Fully to distinguish between the financial interests or 
 equities of the citizens of a nation, state, or municipality 
 in its assets, properties, and public improvements and the 
 claims of others upon such assets, etc., the claims referred 
 to should be recorded in one group of accounts receiving 
 the name "liabilities," and the interests or equities of the 
 citizens in a second group called "revenue accumulations," 
 or otherwise. In the first group should be recorded the 
 claims of creditors and those of the beneficiaries of private 
 trusts and of public trusts for non-governmental uses, and 
 in the second the interests of the citizens, classified accord- 
 ing to character. 
 
 Classification of Revenue Accumulations. — ^In govern- 
 mental accounting, some credit entries are made in the 
 balance-sheet accounts for "revenue accumulations" which 
 are employed for the purpose of securing accounting con- 
 trol over specified classes of transactions, or for other pur- 
 poses, and represent no accumulations of unexpended rev- 
 enues, but accounting offsets to actual or nominal assets. 
 
274 ACCOUNTING TERMINOLOGY 
 
 All such credit entries are here called nominal revenue 
 accumulations, to distinguish them from amounts of actual 
 accumulations of revenue for governmental purposes. The 
 revenue accumulations most frequently met with in gov- 
 ernmental accounts are of two distinct classes: (1) Those 
 w^hich are to be held, used, or expended for specified gov- 
 ernmental purposes or subject to specified conditions; and 
 (2) those which are to be held, used, or expended in the 
 discretion of the Government. The former class may be 
 called reserve, special, or unconvertible revenue accumu- 
 lations, or governmental reserves; while the second class 
 may be called unreserved, general, or convertible revenue 
 accumulations. 
 
 Governmental Reserves. — The governments of states 
 and municipalities have no capital stock as have private 
 corporations, and hence no surplus. The amounts of rev- 
 enue accumulations held for future expenditures, or em- 
 ployed for the acquisition or construction of the more per- 
 manent public improvements, or for the purpose of invest- 
 ment, must from one point of view be considered as an 
 undivided w^hole; and yet these revenue accumulations may 
 have been set aside or designated for specified govern- 
 mental purposes by the terms of donations or of grants 
 from other civil divisions, or by conditions stated in gen- 
 eral or special appropriation acts. While in origin these 
 reservations differ somewhat from those of private enter- 
 prises, they are, from the standpoint of the accountant, 
 analogous, and therefore can with propriety be given simi- 
 lar designations to those applied to reservations of corpo- 
 rate surplus. Accordingly they are here spoken of as 
 "governmental reserves," or simply as "reserves." 
 
 Governmental reserves, like the surplus reserves of 
 private enterprises, receive designations and are classi- 
 fied primarily mth reference to the object or purpose for 
 which they are reserved, or the conditions under which 
 certain funds are received and are held. The only reser- 
 
ACCOUNTING TERMINOLOGY 275 
 
 vations that are usually recorded in governmental trans- 
 actions are, however, those shown in the accounts of 
 governmental funds — general, special, and trust. These 
 reserves, like the surplus reserves of private corporations 
 for gain, are of two distinct classes, those which are here 
 called permanent and temporary. 
 
 Permanent governmental reserves are those recorded 
 in governmental accounts with revenue accumulations 
 which represent the principal of special or trust funds 
 that has been received with the understanding or obliga- 
 tion that such principal must be kept intact forever, and 
 only its income expended for general or special govern- 
 mental purposes. 
 
 Temporary governmental reserves are those recorded 
 in governmental accounts with revenue accumulations 
 which represent that portion of general, special, and trust 
 funds that is at once available for meeting current expenses 
 and has, by the terms of general and special appropriation 
 acts, been reserved for specified expenditures. The re- 
 serves of the general funds are those represented by the 
 credit balances that record the provisions and limitations 
 of the general appropriation acts, while the reserves of 
 the special and trust funds are those representing the 
 limitations and conditions imposed by the terms of special 
 appropriation acts, such as those accompanying bond 
 issues and those representing the limitations and condi- 
 tions surrounding the expenditures of so-called govern- 
 mental public trust funds for governmental uses. 
 
 Most American governments, in accounts wdth their 
 properties and public improvements, have but one account 
 for the interests or equities of the cities in such properties 
 and public improvements, and that is an account recording 
 a summary of the amount of such equities. A few cities, 
 introducing improved accounts in the last few years, have 
 separated those equities or interests into two groups corre- 
 sponding to the reserved and unreserved revenue accumu- 
 
276 ACCOUNTING TERMINOLOGY 
 
 lations of the governmental funds. The interests in these 
 properties, etc., corresponding to the reserved revenue 
 accumulation of the governmental funds, are those which 
 represent the gifts or other voluntary contributions which 
 the Government has received and has expended in the 
 acquisition or construction of its properties and public 
 improvements as called for by the terms of the givers. 
 These governmental reserves may all be called permanent, 
 and will in accounts be shown in detail under specified 
 heads disclosing the pui'poses to which the money or other 
 wealth received has been devoted. 
 
 Expenses. — In governmental accounting, expenses are 
 (1) the accrued costs, paid or payable, of services, rents, 
 and materials, exclusive of those for permanent properties 
 and improvements, utilized by nations, states, and muni- 
 cipalities for the maintenance and operation of their 
 governments and for the conduct of their business under- 
 takings for which they have constitutional or statutory 
 authority; and (2) the losses by depreciation of permanent 
 properties and otherwise. Expenses are the costs and 
 losses for which no permanent or subsequently convertible 
 value is received or receivable. 
 
 The expenses of governments may be classified in 
 many ways. Classified with reference to the objects for 
 which they are incurred they are readily arranged under 
 the heads of "salaries and wages," "rents," "materials," 
 and "depreciation," all of which classes may be subdivided 
 into a large number of minor groups, to which may be 
 given specific names, as in the case of the expenses of 
 private concerns. Governmental expenses are further 
 separable into two principal groups, here called general 
 expenses and commercial expenses. 
 
 General Expenses. — The general expenses of the gov- 
 ernments of nations, states, and municipalities are those 
 incurred by them in connection mth the exercise of their 
 general govermental functions. These expenses are, bj^ 
 
ACCOUNTINa TERMINOLOaV 277 
 
 the Bureau of the Census, subdivided into eight principal 
 groups, corresponding to the following division of govern- 
 mental activities : I. General government ; II. Protection of 
 life and property; III. Health conservation and sanitation; 
 IV. Highways; V. Charities and corrections; VI. Educa- 
 tion; VII. Recreation; VIII. Miscellaneous. The expenses 
 included in each of these subdivisions are further classi- 
 fied by the offices, departments, or otherwise, into a num- 
 ber of groups, fully illustrated by the tables of this report. 
 Commercial Expenses. — The commercial expenses of 
 the governments of nations, states, and municipalities are 
 those incurred by them in connection with commercial 
 functions. They are divided into four groups, correspond- 
 ing to the subdivisions of commercial transactions, as 
 follows : 
 
 (1) Expenses of municipal service enterprises are the 
 total costs of the operation and maintenance of munici- 
 pal service enterprises, or the expenses of those depart- 
 ments or offices of a city which are organized mainly for 
 the purpose of furnishing the city with some public utility 
 or with some service which most cities obtain from or 
 through private enterprises. 
 
 (2) Expenses of public service enterprises are the total 
 costs of operation and maintenance of the public service 
 entei^Drises of a nation, state, or municipality, or the ex- 
 penses of those departments or offices of a city which are 
 organized for the purpose of providing the public, or the 
 public and the city, with some public utility or service. 
 
 (3) Investment expenses are the total costs of the 
 administration of sinking, investment, and public trust 
 funds of nations, states, or municipalities. 
 
 (4) Special service expenses are the expenses incurred 
 by nations, states, and municipalities in connection with 
 special services performed or provided by any of their 
 departments or offices other than the public service and 
 municipal service enterprises. 
 
278 ACCOUNTING TERMINOLOGY 
 
 Interest. — In governmental accounting, the term inter- 
 est is used as the designation of the accrued costs, paid 
 or payable, incurred by nations, states, and municipalities 
 for the use of credit capital utilized by them. These costs 
 are separable into a nmnber of groups, according as they 
 are classified with reference to the purpose for which the 
 credit capital was utilized, or according to the character 
 of the governmental obligations evidencing the indebted- 
 ness on which the interest is payable. 
 
 Outlays. — In governmental accounting, outlays are the 
 accrued costs, paid or payable, of lands and other proper- 
 ties more or less permanent in character, and thus avail- 
 able for more than a single use, which are owned or used 
 by nations, states, and municipalities in the exercise of 
 their governmental functions or in connection with the 
 business undertakings conducted by them. The outlays 
 of governments are separable into the same groups as are 
 their general expenses and the expenses of public utility 
 enterprises. 
 
 Investments. — For a statement of the nature of invest- 
 ments see a former page under '^ invested assets." 
 
 Storehouse Supplies. — Under the designation "store- 
 house supplies" are included all costs, paid or payable, 
 of supplies purchased by governments in bulk for cities, 
 which are to be distributed or assigned upon requisition 
 to the departments, or are to be applied to current uses 
 or to the construction of public improvements. They are 
 acquired under conditions which preclude the assignment 
 of their costs at the time of purchase to the purposes for 
 which they are finally applied. In practice, these costs 
 are referred to under a number of more specific designa- 
 tions. 
 
 Revenue Charges and Revenue Deductions. — In private 
 corporation accounting many business men and account- 
 ants employ the terms *' revenue charges" and "revenue 
 deductions" in referring to all costs and losses that must 
 
ACCOUNTINa TERMINOLOGY 279 
 
 be met from or charged to revenue, in order to ascertain 
 the income or net profits accruing from the management 
 of the enterprise as compensation in the form of dividends 
 or otherwise for the corporate capital or capital of the 
 proprietor employed therein. The costs and losses of 
 private business thus chargeable to or to be deducted from 
 revenue are those here called expenses and interest. In 
 accounting for governmental service or municipal service 
 enterprises, where such accounting is made on the basis 
 of securing comparability with corresponding private en- 
 terprises, the terms "revenue charges" and "revenue 
 deductions" have the same significance as stated above. 
 In accounting for the governments of nations, states, and 
 municipalities, it is to be noted that all the costs and losses 
 referred to above as expenses, interest, outlays, invest- 
 ments, and storehouse supplies, are in one sense charges 
 against revenue, since they are met from accumulations 
 of past revenues or present revenues, or from future rev- 
 enues by anticipation. The costs and losses included under 
 expenses, interest, and outlays are the current costs of 
 government, and may with propriety be included under 
 the designation current revenue charges or current rev- 
 enue deductions. 
 
 Revenue Expenditures. — The term revenue expendi- 
 tures is by many public and private accountants employed 
 with the significance given above to revenue charges and 
 revenue deductions, and the word "expenditures" is also 
 employed as a general descriptive term, including all that 
 is signified by the words expenses, interest, outlays, in- 
 vestments, storehouse supplies, disbursements, and pay- 
 ments. It is sometimes employed in the present report 
 with the general significance last referred to. 
 
 Revenues in Private Corporate Business. — In private 
 corporate business the word revenues is the designation 
 most frequently employed at the present time in referring 
 to amounts of money, or money's worth, which corpora- 
 
280 ACCOUNTING TERMINOLOGY 
 
 tions and enterprises, other than those engaged in trade, 
 receive or become lawfully entitled to receive as the result 
 of business transactions, the sale of property, or the render- 
 ing of services, and as returns upon property or interests 
 in property. Many accountants use the word income with 
 the significance here assigned to the word revenues, but 
 the word revenues is at the present time employed by the 
 larger number of accountants, many of whom employ the 
 word income in referring to the excess of revenues over 
 expenses. 
 
 Governmental Revenues. — The revenues of nations, 
 states, and municipalities are the amounts of money, or 
 money's worth, provided or obtained by them for meet- 
 ing those costs of government called expenses, interest, 
 and outlays, and are derived from the following sources: 
 (1) From the exercise of the governmental powers of 
 taxation and police control; (2) from the receipt of dona- 
 tions, gifts, grants, and subventions for governmental 
 uses; (3) from the performance of ser^dces for compensa- 
 tion, and the furnishing of material objects for valuable 
 considerations ; and (4) from the operation or management 
 of the productive enterprises, investments, and properties 
 of the Government. 
 
 The revenues or revenue of a fiscal year are the amounts 
 of revenues or revenue which have been provided or ob- 
 tained, or made applicable, for that year. To distinguish 
 between the revenues, or revenue, received and those 
 receivable to the credit of a given fiscal year, the former 
 may be called realized and the latter authorized but un- 
 realized. Classified with reference to their character, the 
 revenues or revenue of nations, states, and municipalities 
 are, like governmental expenses, readily separable into 
 two classes, called respectively by the Bureau of the Census 
 general and commercial revenues or revenue. 
 
 The general revenues, or the general revenue, of a 
 nation, state, or municipality are the amounts of w^ealth 
 
ACCOUNTINa TERMINOLOGY 281 
 
 •unconditioned upon the performance of any specific service 
 to the individual contributor, provided or obtained as the 
 compulsory or voluntary contributions of private individ- 
 uals.^ corporations, or other civil divisions, for defraying 
 the general costs of government. The greater portion of 
 these revenues are derived from taxes; the remainder are 
 obtained from fines and forfeits, gifts, donations, grants, 
 and subventions. 
 
 The commercial revenues, or revenue, of a nation, state, 
 or municipality are the compulsory or voluntary contribu- 
 tions of private individuals and corporations levied and 
 collected as compensation for services rendered, material 
 objects furnished, or assumed special benefits conferred 
 upon those from whom such revenues or revenue are ob- 
 tained. Included in commercial revenues are those prop- 
 erly called, or here designated, special assessments, privi- 
 leges, fees, charges, and sales, and those which are secured 
 by the management or operation of productive govern- 
 mental enterprises, investments, and properties. 
 
 Taxes. — Taxes are compulsory contributions of wealth 
 levied, or levied and collected, in the general interest of 
 the community, from individuals and corporations with- 
 out reference to special benefits which the individual con- 
 tributors may derive from the public purposes for which 
 the revenue is required or to which it is applied. 
 
 Property taxes, which constitute the most important 
 single source of American municipal revenues, are direct 
 taxes upon property or upon persons, natural or corporate, 
 in proportion to their property''. Property taxes are, by 
 the Bureau of the Census, divided into two subclasses 
 designated, respectively, general and special property 
 taxes. 
 
 General property taxes are those direct taxes which 
 are assessed and collected by methods practically identical 
 for all kinds of property, while special property taxes are 
 those which are assessed and collected upon specified 
 
282 ACCOUNTING TERMINOLOGY 
 
 property by methods not applied to the assessment and 
 collection of taxes upon property in general. All general 
 and most special property taxes are apportioned accord- 
 ing to the value of the property subject thereto, and so 
 far as they are thus apportioned are properly spoken of 
 as ad valorem taxes. 
 
 General property taxes levied at the same rates upon 
 all property within the territory of the taxing power are 
 here called general levies of the general property tax. Sim- 
 ilar taxes levied upon the property of specified portions of 
 the territory of the taxing power, or at varying rates in 
 different parts of that territory, are here called local levies 
 of the general property tax. Both general and local levies 
 may be for a variety of objects and may be authorized by 
 any civil division, and all may receive specific designations 
 according to the object or purpose of the tax, and the civil 
 divisions whose revenue they constitute. 
 
 Business taxes are taxes collected from persons, natu- 
 ral or corporate, by reason of their business, where such 
 collection is not associated with the granting of a license 
 or permit to carry on such business. 
 
 Licenses or permit taxes are taxes collected from per- 
 sons, natural or corporate, by reason of their business, 
 where such collection is associated with the granting of 
 a license or permit to carry on such business, or where 
 without such license or permit the individual or corpora- 
 tion has no legal right to engage in the business. 
 
 Poll taxes (also called capitation taxes) are taxes 
 assessed upon persons without regard to their property. 
 They may be levied uniformly upon all males of specified 
 ages, or graded according to occupation, or otherwise. 
 Some of them are levied in specified amounts against all 
 persons subject thereto, and others are quasi property 
 taxes based upon an arbitrary valuation of polls. Poll 
 taxes graded according to occupation may also be called 
 occupation taxes. 
 
ACCOUNTINa TERMINOLOGY 283 
 
 Fines and forfeits are amounts accruing to the benefit 
 of nations, states, and municipalities as part of tlie pun- 
 ishment of individuals and corporations for failure to 
 observe civil or criminal laws, or to perform the terms 
 of specified agreements. 
 
 Gifts and donations are designations for amounts of 
 voluntary contributions received by governments from 
 private individuals, while grants and subventions are the 
 terms generally applied in speaking of amounts received 
 by one government from another. Amounts received as 
 above, from private individuals or from governments, may 
 be accepted either with or without specified conditions as 
 to their use or investment. 
 
 Special assessments, like taxes, are compulsory contri- 
 butions levied under the taxing or police power of nations, 
 states, and municipalities to defray the costs of specified 
 public improvements or public services undertaken pri- 
 marily in the interest of the public. They differ from taxes 
 in that they are apportioned according to the assumed 
 benefits to the individuals or corporations for whom the 
 services are performed, or according to the assumed in- 
 crease in the value of the property affected by the improve- 
 ment. They are, by reason of the difference here stated, 
 classified as commercial rather than as general revenues. 
 
 Privileges. — The designation privileges is applied (1) 
 to the special contract rights, in and upon highways, grant- 
 ed by special or general laws and ordinances to specified 
 individuals and corporations; and (2) to the amounts that 
 are paid or payable to the general treasury as compensa- 
 tion for such rights. The rights which are enjoyed are 
 of the same legal nature as those which in private busi- 
 ness are called "easements." These privileges are, by the 
 Bureau of the Census, divided into two classes called, re- 
 spectively, major and minor. The major privileges are 
 those which are exclusively enjoyed by public service 
 corporations, and which such corporations must possess in 
 
284 ACCOUNTING TERMINOLOaY 
 
 order to carry on their operations; while the minor privi- 
 leges are those granted to public service and other corpora- 
 tions and to private individuals for the privilege of utiliz- 
 ing for business purposes specified portions of the street 
 or sidewalk, or the spaces above or below the same. It 
 should, however, be noted that revenues derived from 
 minor privileges granted in connection with the manage- 
 ment of municipal markets, and the regulation of market 
 sales of merchandise by its producers in the streets, are 
 in all cases to be considered as parts of the revenues of 
 markets. 
 
 Fees and Charges. — Fees and charges, as distinguished 
 from taxes, are compulsory contributions of wealth which 
 are exacted from persons, natural or corporate, to defray 
 a part or all of the costs involved in some specified service 
 rendered by the Government. 
 
 Fees are amounts of money paid or payable for serv- 
 ices which are never performed except by governments; 
 while charges are amounts of money paid or payable for 
 services performed by governments which are similar in 
 character to those performed by one individual for an- 
 other. The greater portion of all '^fees" are receipts for 
 services where the costs of the same are so well known 
 that they are established by statute and are generally col- 
 lected in advance; while '^ charges" can be definitely deter- 
 mined only upon completion of the work, and advance pay- 
 ments are only to guarantee the payment of costs when 
 determined. 
 
 Governmental revenues obtained or secured from the 
 operation of productive enterprises, investments, and prop- 
 erties include rents, interest, receipts from sales of manu- 
 factured products, etc., the same as in private business 
 management. The classification of such revenues and the 
 terminology thereof are identical with those employed in 
 connection with the revenues from similar sources of pri- 
 vate productive enterprises, investments, and properties. 
 
ACCOUNTINa TERMINOLOGY 285 
 
 Revenue. — The revenue of a nation, state, or munici- 
 pality is the aggregate amount of money or other form 
 of wealth provided or obtained by it for the objects and 
 from the sources previously mentioned under ''govern- 
 mental revenues." 
 
 The word "revenue" is also used as a part of many 
 compound terms, such as "revenue expenditures," "rev- 
 enue loans," "revenue tariff," "revenue law," "revenue 
 producing law," "revenue account," etc., in most of which 
 it retains its significance as here defined. For other legal 
 and accounting terms in which the word "revenue" is em- 
 ployed with a different meaning, substitutes should be 
 adopted in order to avoid complexity and to obtain sim- 
 plicity of terminology and clearness of statement. 
 
 A revenue law is a law made either for the direct or 
 the avowed purpose of creating or procuring revenue for 
 the support and use of the Government, while a revenue 
 producing law is one from the operation of which revenue 
 accrues to the benefit of the Government. 
 
 A revenue account is an account showing the source, 
 amount, and disposition of moneys received from revenue. 
 All revenue accounts are treasury accounts, the latter term 
 being a common or generic designation of all accounts 
 showing the amoimts of money received into the treasury 
 from specified sources, and the disposition of the same. 
 All monej^s so received are spoken of as public moneys, or 
 public funds. 
 
 Payments. — In accounting, payments are primarily 
 amounts of money, or its equivalent, delivered or disbursed 
 in financial transactions either in the interest of or for the 
 satisfaction of claims against the payer. 
 
 Receipts. — In accounting, receipts are primarily 
 amounts of money, or its equivalent, taken in in financial 
 transactions, either for the benefit of the recipient or for 
 the benefit of another. 
 
 It has already been noted that the statistics of the 
 
286 ACCOUNTING TERMINOLOGY 
 
 financial transactions of cities compiled by the Bureau of 
 the Census are primarily statistics of governmental pay- 
 ments and receipts. These payments and receipts may be 
 classified in many ways. The most important classifica- 
 tion is one based upon the fact that some amounts of money 
 paid or received lessen or add to the cash in the treasury, 
 while others do not lessen or add to such cash. A classi- 
 fication of the paj^nents and receipts of governments upon 
 this basis gives rise to two classes here called real or actual, 
 and nominal or transfer, payments and receipts. 
 
 Real or Actual Payments. — The real or actual payments 
 of a nation, state, or municipality are the amounts of 
 money, or money's worth, Avhich its officials deliver to the 
 public, including the governments of other civil divisions, 
 and which lessen the total cash in its possession or control. 
 
 Real or Actual Receipts. — The real or actual receipts 
 of a nation, state, or municipality are the amounts of 
 money, or money's worth, which its officials take from 
 the public, including the governments of other civil divi- 
 sions, and which add to the total cash in its possession or 
 control. 
 
 Real or actual payments and receipts, being in all cases 
 payments to and receipts from the public, may with pro- 
 priety be called payments to and receipts from the public. 
 The terms last mentioned are by the Bureau of the Census 
 employed interchangeably with the terms real or actual 
 payments and receipts. 
 
 The real or actual payments and receipts of a govern- 
 ment, or its payments to and receipts from the public, may 
 in turn be classified in many ways, the most significant 
 classification being that which separates the payments and 
 receipts for meeting the costs of government from all other 
 actual governmental payments and receipts. Thus sepa- 
 rated, the payments and recei^Dts of nations, states, and 
 municipalities are readily arranged in two groups, here 
 called payments and receipts for meeting governmental 
 
ACCOUNTINa TERMINOLOGY 287 
 
 costs, and payments and receipts other than those for meet- 
 ing governmental costs. 
 
 Payments and receipts for meeting governmental costs 
 are the net amounts of money, or other wealth expressed 
 in terms of money, which nations, states, and municipali- 
 ties pay or expend for meeting costs of government, or 
 its expenses, interest, and outlays, and which they receive 
 from all sources. The Bureau of the Census has in its 
 previous reports given the name '* corporate" to such pay- 
 ments and receipts, for lack of a more comprehensive and 
 brief designation. It is hoped that a more descriptive 
 designation may be suggested. 
 
 Payments of nations, states, and municipalities for 
 meeting costs of government are readily separable accord- 
 ing to the objects of their payments into four classes: 
 (1) Payments for expenses, (2) payments for interest, 
 (3) pajrments for outlays, and (4) payments for the liquida- 
 tion of indebtedness. These classes include the net 
 amounts paid by governments for the objects and pur- 
 poses mentioned, after amounts received to correct erron- 
 eous payments for these purposes and other counterbal- 
 ancing payments have been deducted. The payments for 
 the liquidation of indebtedness which are to be included 
 among payments for costs of government are the net pay- 
 ments for this purpose, or the excess of payments for this 
 purpose over the amounts received for debt obligations 
 assumed or issued during a given period. The ditferent 
 classes of payments for meeting costs of government are 
 frequently spoken of in this report as the net payments 
 for expenses, interest, and outlays, and for the liquidation 
 of indebtedness. These payments are readily separable 
 into the same classes and given designations corresponding 
 to those for expenses, interest, outlays, etc., of which men- 
 tion has previously been made. 
 
 The receipts of nations, states, and municipalities 
 for meeting costs of government are from two sources — 
 
288 ACCOUNTING TERMINOLOGY 
 
 revenue and public creditors. The receipts from revenue 
 here mentioned are the net amounts obtained from revenue, 
 as above defined, after deducting all amounts received in 
 error and returned or to be returned in correction thereof. 
 They are readity classified according to the specific source 
 from which derived, and when thus classified will follow 
 the classification of revenues already presented. Receipts 
 from creditors, included as receipts for meeting govern- 
 mental costs, are the net amounts obtained from loans and 
 other credit transactions. They are the excess of the re- 
 ceipts which result from the transactions mentioned over 
 payments for the liquidation of loans and other debt lia- 
 bilities during any fiscal period. 
 
 In private business, amounts received from loans and 
 other credit transactions are recorded by entries only in 
 the cash account and in the liability accounts. The 
 amounts received are generally considered as belonging to 
 ''capital," and not to ''revenue." The corresponding 
 amounts received by governments are by writers on public 
 finance — such as Henry C. Adams, professor of political 
 economy and finance in the University of Michigan; 
 Richard T. Ely, professor of political economy in the Uni- 
 versity of Wisconsin; and many others — recognized as 
 being resources for meeting the costs of government, and 
 thus to be, included in the same general class as "govern- 
 mental revenue." To distinguish receipts from loans and 
 other credit transactions from those obtained from what 
 has here been defined as "revenue," the latter are called, 
 by the writers mentioned, receipts from "permanent" and 
 "final" revenues; while those obtained from loans are 
 designated receipts from "anticipatory" or "temporary" 
 revenues. The statutes of many American states recog- 
 nize the principles underlying the classification and term- 
 inology employed by Professors Adams and Ely by call- 
 ing short term loans "anticipatory loans," "anticipatory 
 
ACCOUNTINa TERMINOLOGY 289 
 
 tax loans," '^anticipatory revenue loans," ''anticipatory- 
 warrants," etc. 
 
 Receipts from revenues should, as a rule, be arranged 
 in the same classes and under the same designations as 
 the revenues from which they are obtained; and receipts 
 from loans and other credit transactions should be classi- 
 fied according to the nature of the instruments evidencing 
 indebtedness, or of the credit transactions giving rise 
 thereto. 
 
 The actual payments of cities other than those for meet- 
 ing governmental costs are amounts of money, or other 
 wealth expressed in terms of money, paid by them to the 
 public, which do not lessen the amount of resources avail- 
 able for meeting the costs of the Government. The actual 
 receipts of cities other than those for meeting governmental 
 costs are those which do not add to the resources avail- 
 able for meeting the costs of government. These pay- 
 ments and receipts are of tliree distinct classes, called by 
 the Bureau of the Census counterbalancing payments and 
 receipts, pajnuents for and receipts from investments, and 
 payments and receipts as agent or trustee. 
 
 Counterbalancing pajTuents and receipts of a nation, 
 state, or municipality are amounts paid to and received 
 from the same individual, or paid and received for the 
 same object. They are of four distinct classes: (1) Pay- 
 ments and receipts in error, balanced by receipts and pay- 
 ments for the correction of error; (2) payments and re- 
 ceipts for accrued interest on bonds and on securities pur- 
 chased by invested funds, balanced by later receipts and 
 payments of the government or of the funds originally 
 paying or receiving; (3) receipts from debt obligations 
 issued and assumed, balanced by amounts paid for the re- 
 demption or liquidation of indebtedness during the same 
 fiscal period; and (4) payments for outlays, balanced by 
 receipts from sales of real property, and receipts from 
 
 insurance companies on account of losses by fire. Amounts 
 B— VIII— la 
 
290 ACCOUNTING TERMINOLOGY 
 
 paid and received in correction of error are given the spe- 
 cific designation of refunds. 
 
 Investment payments of a nation, state, or munici- 
 pality are the payments for the purchase of securities and 
 other investments by its invested funds, such as those 
 designated sinking, public trust, and investment funds; 
 and its investment receipts are the amounts received by 
 its government from the sale of securities or other prop- 
 erties belonging to the same funds. 
 
 Trust and agency payments and receipts of a nation, 
 state, or municipality are amounts of money which its 
 government disburses and receives for the government of 
 another civil division, or disburses and receives as a quasi 
 trustee for private individuals, or for public trusts for 
 non-governmental uses. 
 
 Nominal Payments and Receipts. — The nominal pay- 
 ments and receipts of a government are amounts of money, 
 or money's worth, which one of its divisions, branches, 
 offices, or accounts pays and another receives, but which 
 do not lessen or add to the total cash in the possession or 
 control of the government. 
 
 Nominal payments and receipts are by the comptroller 
 of New York City called inter se transactions; by the 
 Bureau of the Census they are most frequently called 
 transfer payments and receipts, or simply transfers. 
 
 Nominal payments and receipts of governments, when 
 classified according to the character of the transactions 
 involved in a transfer, are designated as ''general transfer 
 pajrments and receipts," "service transfer payments and 
 receipts," "interest transfer payments and receipts," "in- 
 vestment transfer payments and receipts," and "account- 
 ing transfer payments and receipts"; and when classified 
 with reference to the divisions, departments, or offices 
 between which, the transfer is made, as "major" and 
 "minor" transfer payments and receipts. 
 
 General transfer payments and receipts are amounts 
 
ACCOUNTINa TERMINOLOGY 291 
 
 of money, materials, or credits set over by accounts or 
 delivered from one division, fund, enterprise, office, class 
 of assets or liabilities, object of expenditure, or source of 
 revenue to another. 
 
 Service transfer payments and receipts are public utili- 
 ties furnished by a governmental enterprise; or the serv- 
 ice performed by one governmental division, enterprise, or 
 office; or through one governmental fund, object of ex- 
 penditiu'e, or source of revenue, for another governmental 
 division, fund, enterprise, office, object of expenditure, or 
 source of revenue. 
 
 Interest transfer pa3Tiients and receipts are amounts 
 paid to a governmental fund or received by it from a 
 division of a government as interest on governmental se- 
 curities or debt obligations held by the fund. 
 
 Investment transfer payments and receipts are amounts 
 of securities or other investments paid or delivered by 
 one fund and received by another fund, or amounts of 
 governmental obligations delivered by a division of a gov- 
 ernment to a fund, or received by it for a fund, and the 
 receipt or delivery of cash in return therefor. 
 
 Accounting transfer payments and receipts are amounts 
 of money, or money's worth, which are set over by credit 
 and debit entries from one class of accounts to another, 
 as from an asset to a revenue account, or from an expense 
 to a liability account. 
 
 Major transfer pajniients and receipts are amounts of 
 money or its equivalent, transferred by one independent 
 division or fund of a government to another. 
 
 Minor transfer payments and receipts are amounts of 
 money, or other wealth expressed in terms of money, paid 
 by one office to another, or set over in the accounts of a 
 division of a government from one object of expenditure, 
 or source of revenue, to another. 
 
 Ordinary and Extraordinary Payments and Receipts. — 
 A classification and terminology that have been in use 
 
292 ACCOUNTINa TERMINOLOGY 
 
 longer than any of those above mentioned are those that 
 separate governmental pajonents and receipts into two 
 groups, called respectively ordinary and extraordinary. 
 This classification and terminology originated in govern- 
 mental finance and grew out of a policy once observed by 
 all nations, states, and municipalities in meeting the costs 
 of their governments. This policy has now been abandoned 
 by the greater number of nations, states, and municipal- 
 ities, and in governmental accounting the names ordinary 
 and extraordinary represent survivals from past methods 
 without administrative or other significance at the present 
 time, although they have been adopted and are generally 
 used in private corporation accounting with their earlier 
 significance in governmental administration. To under- 
 stand the earlier governmental use of these words in the 
 classification and terminology of pajonents and receipts, 
 it is necessary to consider their present administrative use 
 in the field of modern corporation accounting. 
 
 One of the objects of private accounting for proprietor- 
 ship is to ascertain for each fiscal jear the outcome or 
 results of business operations expressed in terms of profit 
 and loss. Another object is to equalize dividends from 
 year to year. To assist in the accomplishment of these 
 two results, all regularly occurring expenses and all other 
 small expenses are each year charged against or deducted 
 from revenue before dividends are declared. The amounts 
 thus charged are called ordinary expenses, or expenses that 
 ordinarily occur. When, however, exceptionally large 
 costs or losses occur, such costs or losses are called extra- 
 ordinary, and are distributed as revenue charges or deduc- 
 tions over a series of years, so that they may not disturb 
 the regularity of dividends. Two methods are employed 
 for accomplishing these results. One is to provide for ex- 
 traordinary costs and losses in advance by setting aside 
 reserves from surplus for the exigencies that involve these 
 expenditures; and the other is to charge them temporarily 
 
ACCOUNTINa TERMINOLOaY 293 
 
 to a suspense account, and later, when it may be found 
 most advantageous from an administrative point of view, 
 to charge them to revenue. 
 
 Modem governments, unlike private corporations, can 
 seldom accumulate large and effective reserve funds for 
 meeting extraordinary governmental costs. But few Amer- 
 ican cities hold funds of this character, and they are prin- 
 cipally for insurance purposes, and the only funds of the 
 kind that are now held by national governments are those 
 included in *'war chests" or hoards of the precious metals 
 to meet the possible exigencies of war. At the present 
 time, therefore, the average nation, state, or municipality 
 employs but one method for meeting extraordinary or ab- 
 normal costs and losses, and that is by loans which enable 
 it to do what a private corporation accomplishes through 
 a suspense account or reserve fund. These loans permit 
 the government to distribute the burden of the extraordi- 
 nary costs and losses upon the taxpayers over a series 
 of years, in the same way that the amounts charged or 
 held in suspense are deducted with regularity from rev- 
 enues by the private corporation. The extraordinary gov- 
 ernmental costs to be thus distributed are those which, 
 like the expenses of w^ar, or costs of a city hall, occur but 
 seldom, and may well be distributed through a series of 
 years; while the ordinary governmental costs are those 
 which regularly occur, and which should therefore, like 
 the regularly recurring expenses and interest charges of 
 a private corporation, be met every year from revenue. 
 The application of the principles embodied in this adminis- 
 trative policy makes the costs of a village schoolhouse 
 extraordinary, since they occur only once in twenty or 
 fifty years; while similar costs for schoolhouses in cities 
 needing ten new schoolhouses each year would be ordi- 
 nary, because recurring in the same way that the ordinary 
 expenses of a private business recur. 
 
 Few American governments employ the words ordinary 
 
294 ACCOUNTINa TERMINOLOGY 
 
 and extraordinary in the manner described, which corre- 
 sponds to the use of the word in private business and ac- 
 counts, and is identical with the earlier governmental usage 
 which gives rise to the admirable method here referred to 
 as adopted in private accounting. If any large number 
 of governments so employed these words, the classifica- 
 tion Avould admirably serve statistical purposes and would 
 be of large administrative value for governments. Unfor- 
 tunately the average American city, as the average Euro- 
 pean government, has departed widely from the earlier 
 administrative policy followed in financing costs and loss- 
 es, and of the cities using the terms ''ordinary" and ''ex- 
 traordinary" no two assign them the same significance. 
 As a result, no comparative statistical compilation can be 
 based upon local classifications of payments and receipts 
 as ordinary and extraordinary. By reason of this fact, 
 the Bureau of the Census makes no attempt to employ 
 the words in its terminology of payments and receipts, 
 or to predicate any of its classifications upon the usage 
 with which these words are employed by any given city. 
 
 Accounting Summaries. 
 
 Importance. — In both governmental and private busi- 
 ness, accounts are made of administrative assistance 
 mainly through the instrumentality of summaries, or 
 condensed statements of the facts recorded in or de- 
 rived from accounts. Without such summaries it is 
 impossible for an administrative officer or other person 
 to gather from his accounts any comprehensive knowl- 
 edge of his business. The number as well as the char- 
 acter of the summaries that are employed by any 
 enterprise or government determines the extent to which 
 accounts are made of assistance in its administration. The 
 summaries employed in accounting are readily separable 
 into two groups, here spoken of as general or principal, 
 and departmental, functional, or subordinate, according to 
 
ACCOUNTING TERMINOLOGY 295 
 
 whether they relate to a business in its entirety or to the 
 various subdivisions thereof. Consideration is first given 
 to the summaries employed in the accounts of private 
 business. 
 
 Summaries in Accounts for Proprietorship. — Private 
 undertakings conducted for gain, as has been pointed out, 
 make use of proprietorship accounts. To be of administra- 
 tive assistance, they must disclose the property rights of 
 the owners, and exhibit the relation of those rights to the 
 assets or possessions of the undertaking, and to the claims 
 of creditors and trust beneficiaries thereupon. They must 
 also disclose the effect or result of current financial trans- 
 actions upon the property rights of the owners. The ac- 
 complishment of these ends in accounting for proprietor- 
 ship requires two principal summaries — one a statement 
 of business condition and the other of business results. 
 The statement of business condition is most commonly 
 called, in the case of a solvent concern, a balance sheet, 
 and in the case of an insolvent one, a statement of affairs. 
 The summary of results is called a profit and loss account 
 or statement, or a revenue and expense summary, or is 
 given some other descriptive designation, depending some- 
 what upon the nature of the business. 
 
 These summaries assume many forms, depending to a 
 large extent upon the magnitude and character of the data 
 to be summarized, and upon the facts or details it is de- 
 sired to present. With all details eliminated, the form 
 assumed by the balance sheet of an enterprise for gain is 
 as follows: 
 
 Assets. Liabilities. 
 
 Proprietary interests. 
 
 In this statement, the total liabilities and proprietary 
 interests must equal the assets, and the amount of pro- 
 prietary interests is disclosed by deducting the liabilities 
 from the assets. In like manner, the results of the trans- 
 actions of a non-trading concern, such as a public service 
 
296 ACCOUNTING TERMINOLOGY 
 
 enterprise, may be summed up or stated in a simple form, 
 as follows: 
 
 Revenues • $ • 
 
 Expenses $ 
 
 Interest 
 
 Profit 
 
 The profit, in this case, is always the excess of revenues 
 over expenses and interest. In case the expenses and 
 interest are greater than the revenues, the result is a loss. 
 But whatever the result is, the amount of profit or loss 
 shown in the statement should agree with the difference 
 between the proprietary interests at the beginning and 
 those at the close of the period for which the summary 
 of results is prepared, plus or minus the changes made 
 therein during that period. 
 
 The proper administration by a city of a public or 
 municipal servdce enterprise, such as a water-supply sys- 
 tem or an electric light and power station, can be secured 
 only by adopting substantially the same business methods 
 as are used by private owners of similar concerns. The 
 emplo}Tnent of these methods in their entirety involves 
 also a similar manner of keeping accounts, in order that 
 the effect or results of the operation of the enterprise upon 
 the city, either in increasing its net expenses or in pro- 
 viding revenues from the enterprise for other municipal 
 purposes, may be shown. The accounts of such municipal 
 enterprises, therefore, must be proprietorship accounts, and 
 the summary statements called for must be similar to those 
 described in the preceding paragraph. 
 
 Summaries such as those described above are all that 
 are employed by enterprises for gain whose only use of 
 accounts is to disclose the amount of assets, liabilities, 
 and proprietary interests, and to measure the profit and 
 loss for given fiscal periods. Such enterprises, though 
 many in number, are with the passage of years coming 
 to represent a constantly decreasing proportion of the 
 
ACCOUNTINa TERMINOLOGY 297 
 
 total; while an ever-increasing number whether publicly 
 or privately owned, are striving to arrange their accounts 
 and provide summaries thereof in such a way as to enable 
 the accountants and administrative officers to demonstrate 
 when and how gains are realized or losses suffered, and 
 also to measure the amount of such gains and losses. To 
 accomplish the^e results, the accounts of this class of enter- 
 prises are divided and subdivided so as to record sepa- 
 rately the revenues obtained from every source, the costs 
 of every functional activity, and the value of the prop- 
 erty employed in connection with each activity. Further, 
 these various divisions and subdivisions of accounts are 
 summarized in accounts especially arranged therefor, 
 which are given many specific designations, but are re- 
 ferred to in a general way as '^controlling accounts," and 
 which are in fact accounting summaries subordinate to 
 the principal or general summaries described in the pre- 
 ceding paragraph. The number and character of these 
 controlling accounts will depend upon the nature of the 
 business in w^hich they are employed and the simplicity 
 or complexity, or the varying number of the accounts 
 utilized for administrative purposes. 
 
 Summaries in Private Fiduciary Accounting. — Neither 
 the balance sheet nor the profit and loss account above 
 described is of importance in the accounts of trustee or 
 agents, except where the agency or trusteeship involves 
 primarily the care of productive properties or enterprises, 
 and the trustee is required to show how much the owners 
 have gained or lost by his management of the property 
 or enterprise. In the case of productive properties, the 
 business is conducted by the agent or trustee solely with 
 reference to the property rights of the owners, and hence 
 his accounts are proprietorship accounts. But when the 
 agent or trustee is intrusted with the expenditure of money 
 or the disposal of or acquisition of property in specified 
 ways, the accounting summaries must reflect the nature 
 
298 ACCOUNTING TERMINOLOGY 
 
 of the agency or trust, and the extent to which the duties 
 and obligations under the same have been fulfilled. The 
 summary of such accounts approximates in form the profit 
 and loss statement rather than the balance sheet of an 
 enterprise for gain. The essential entries in such a sum- 
 mary are as follows: 
 
 Amount received in trust, or trust to be discharged $ 
 
 Amount paid in trust, or trust discharged 
 
 Amount on hand, or trust not yet discharged 
 
 When an individual holds a fiduciary position, such as 
 that of executor of an estate from which an income or 
 revenue is derived, he generally accounts separately for 
 the principal and income, and each summary embodies the 
 essential fact called for by the condensed statement or 
 scheme of reporting given above. 
 
 Summaries of fiduciary accounts exhibit the extent to 
 which special fiduciary obligations have been met or dis- 
 charged. They do not provide the data for measuring the 
 efficiency of an agent or trustee. To accomplish such a 
 result, the summaries described must be accompanied with 
 supplementary exhibits, generally called by accountants 
 *' schedules," which must present all the data necessary 
 for the purpose mentioned. Such exhibits, which may 
 be given any form that will best present the facts needed 
 for demonstrating the efficiency of an agent or trustee, 
 bear the same relation to the principal or general sum- 
 mary above described that the controlling accounts of 
 various orders do to the general summaries of the enter- 
 prise conducted. 
 
 Summaries of Governmental Business. — As the ac- 
 counts of a commission merchant differ from those of a 
 manufacturing or transportation company, and as the ac- 
 counts of all three differ from those kept by the executor 
 of an estate, so governmental accounts — though embody- 
 ing the same fundamental principles as the accounts of 
 the classes mentioned — differ from these accounts. In like 
 
ACCOUNTING TERMINOLOGY 299 
 
 manner, governmental summaries must differ from those 
 employed by all other classes of business, whether involv- 
 ing the idea of proprietorship or that of responsibility. 
 In each case, the summaries, to be significant, must pre- 
 sent data that are of administrative importance, and in 
 forms that throw light upon administrative problems. 
 These problems of governmental business are greater in 
 number and more complex in character than those of any 
 private business, and for that reason governmental finan- 
 cial data require for their proper presentation in summary 
 fonn either the use of a larger num.ber of simple state- 
 ments or summaries, or the employment of very complex 
 statements. Consideration is first given to some of the 
 simple summaries of governmental business. 
 
 1. Summaries of Governmental Expenditures. — No ac- 
 counts of nations, states, and municipalities having respon- 
 sible representative governments are of greater adminis- 
 trative importance than the accounts which summarize ex- 
 penditures and show their relations to appropriations. 
 Such accounting summaries measure the fidelity with 
 which the executive officers have complied with the instruc- 
 tions given them by the legislative branches of the Gov- 
 ernment. All cities in the United States with proper ac- 
 counting systems prepare monthly and annual summaries 
 of this character. 
 
 These summaries are prepared not only by the responsi- 
 ble heads of the several administrative departments, but 
 also by the general fiscal officers of the cities— the comp- 
 troller or auditor, and the treasurer. The departmental 
 and general summaries of expenditures should be arranged 
 so as to present the following facts: (1) The balance 
 brought forward from the appropriations of preceding 
 years formally reappropriated for the current year; (2) 
 the annual appropriation or appropriations included in the 
 budget; (3) the appropriations made after the prepara- 
 tion of the budget or in addition thereto; (4) the total 
 
300 ACCOUNTING TERMINOLOGY 
 
 appropriations; (5) the matured bills, paid or payable, for 
 costs of government; (6) the unexpended or free balance; 
 and (7) tlie amount of this balance at the close of the year 
 which under the terms of the appropriation acts is avail- 
 able for the succeeding fiscal period. 
 
 Very many American cities prepare monthly and annual 
 summaries that include the greater portion of the data 
 mentioned in the foregoing descriptive statement; such 
 summaries, if statements of facts, are exhibits which show 
 how far the executive officers of governments have com- 
 plied with the instructions given them by the legislative 
 branch of the Government. But they do not provide any 
 data or means of measuring the economy or efficiency of 
 governmental administration any more than the simplest 
 form of a profit and loss account presents data showing 
 when and how profits are made and losses sustained. Gov- 
 ernmental accounting summaries, to be of as much admin- 
 istrative assistance as the best accounts for proprietor- 
 ship, must provide the means for measuring the economy 
 and efficiency of every branch of service and the work of 
 every administrative office or officer. This can be done by 
 methods that are substantially the same as those utilized 
 by private enterprises for gain for disclosing when and how 
 gains are made and losses sustained. The expenditures 
 must be classified, according to character, into those for 
 expenses, interest, and outlays. They must further be 
 divided and arranged in accounts which will show the costs 
 of government for each and every branch of service or 
 class of outlays. The accounts in which these expendi- 
 tures are reported should be arranged, however, in a 
 number of general and subgenera! groups according to the 
 functional activity which they represent, in the same way 
 as the asset and expense accounts of private gainful enter- 
 prises, and the accounts of each group should be summar- 
 ized in controlling accounts of such orders as may be found 
 
ACCOUNTINa TERMINOLOGY 301 
 
 most convenient, according to tlie size of the city and the 
 voluine of its business activities. 
 
 To make these accounts of the largest practical admin- 
 istrative assistance, and true measures of governmental 
 efficiency and economy, governmental budgets should be 
 prepared along lines that will permit the accounts with 
 expenditures as above described to be fully articulated 
 with the accounts with appropriations. Laws should be 
 provided and strictly enforced to compel all bills for ex- 
 penses to be presented and audited before the close of the 
 year, and all accounts with outlays to be so kept as to 
 show approximately the value of the work performed upon 
 all public properties and improvements. With these and 
 kindred regulations in force, requiring governmental busi- 
 ness to be transacted by business-like methods, govern- 
 mental accounts and summaries of expenditures and ap- 
 propriations will not only provide measures of the fidelity 
 with which executive officers have complied with the 
 instructions of the legislative branch, but will become the 
 basis of measuring the economy and efficiency of every 
 branch of governmental service. The end here described, 
 however, can not be fully attained until the accounts of 
 governmental expenditures are so arranged on common or 
 uniform lines as to provide the means of ready compari- 
 sons of the expenses of each city with those of its neigh- 
 bors of the same size and operating under similar condi- 
 tions. 
 
 A number of American cities keep accounts with 
 appropriations and expenditures in detail, as described 
 above. In addition, they prepare monthly and yearly sum- 
 maries of their appropriations and expenditures, which are 
 at once exhibits of fiduciary accountability and measures 
 of executive efficiency and economy. Such detailed sum- 
 maries provide the information under the eight heads 
 stated above not only for the city as a whole, but also for 
 each object of expenditure or appropriation. The;^ further 
 
302 ACCOUNTINa TERMINOLOGY 
 
 show the amount transferred from one appropriation to 
 another. 
 
 Of the cities providing exhibits of expenditures and 
 appropriations arranged on standard functional lines, men- 
 tion may here be made of Cambridge, Mass. The monthly 
 statements of that city, arranged on the basis here de- 
 scribed, have the great merit of being imderstood by the 
 average city official and taxpayer, and of presenting facts 
 relating to the subject in a form that shows their legal 
 and administrative relations and provides a basis for test- 
 ing the economy and efficiency of administration. 
 
 2. Summaries of Governmental Receipts. — The ex- 
 penditures of responsible, representative governments 
 must always conform to conditions stated in appropriation 
 acts, and in well-governed states and municipalities ap- 
 propriations are always based upon estimates of receipts. 
 To disclose the wisdom of the legislative branch of the 
 Government and its advisers in making appropriations, and 
 to make past estimates of governmental receipts an aid 
 in the preparation of future estimates, nations, states, and 
 municipalities should prepare monthly and yearly sum- 
 maries of estimated and realized receipts, classified in detail 
 according to source of receipt. To make these summaries 
 of the greatest value, they should be prepared on standard 
 lines which call for the arrangement of receipts in groups, 
 according to the character of the revenue and the other 
 sources from which or through which money is obtained. 
 This standard grouping of receipts must- be based upon 
 a classification devised by the leading economists and stu- 
 dents of governmental finance throughout the world. 
 There is already a general agreement among these econ- 
 omists and students, which is in substance reflected in 
 the classification of governmental revenue receipts made 
 use of by the Bureau of the Census in this publication, and 
 presented in previous pages. In form, the city of Cam- 
 bridge, Mass., presents a most comprehensive and intelli- 
 
ACCOUNTINa TERMINOLOGY 303 
 
 gible statement of the estimated and realized receipts 
 corresponding to the exhibits of appropriations and ex- 
 penditures previously referred to. 
 
 Hitherto the controlling accounts with receipts kept 
 by the great majoritj?- of American governments have been 
 records of the amounts of cash passing into the treasury, 
 substantially as has been described in preceding para- 
 graphs. Such accounts are measures of the good judgment 
 of the governmental officials in making advance estimates 
 of governmental receipts. They provide, however, no 
 measure or test of the efficiency of executive officers in 
 collecting the amounts that should be received by the 
 treasury. To provide the means of testing that efficiency, 
 accounts must be kept and detailed summaries prepared 
 such as are provided by the controlling accounts of a pri- 
 vate business, showing for each source of revenue the 
 amounts that ought to be received and the amounts that 
 actually are received. To this end, accounts should be kept 
 with "revenue" as well as with ''receipts" by methods ap- 
 proximating those employed by the most progressive pri- 
 vate enterprises for gain. Monthly and yearly compari- 
 sons in detail of the revenue debits and revenue receipts, 
 with explanations of the reason for all variations, will, 
 for states and communities with good revenue laws, provide 
 the data for demonstrating the efficiency or inefficiency of 
 fiscal officers, and for other states and communities will 
 demonstrate the need of better systems of revenue laws. 
 
 3. Summaries of Payments and Receipts. — The ac- 
 counts of a governmental treasurer were originally kept 
 to demonstrate the fact that none of the money received by 
 him had been converted to personal uses, but that all of 
 it had either been expended for public purposes as required 
 by law, or that all or a part of it was still in his custody. 
 The accounts of auditors and comptrollers were in the 
 beginning kept primarily as a check upon the accounts 
 of the treasurer. Summaries of the payments and receipts 
 
304 ACCOUNTING TERMINOLOGY 
 
 of the treasurer were prepared at an early date by that 
 officer and also by the comptroller and auditor, and such 
 summaries in their earliest form are still necessary in the 
 administration of governmental finances. In their simp- 
 lest form these summaries show the amounts of money on 
 hand at the beginning and at the close of each fiscal pe- 
 riod. The progress made in accounting methods, how- 
 ever, requires that modern governmental summaries of pay- 
 ments and receipts shall be something more than state- 
 ments, such as those just described, and in particular that 
 they should state separately the amount of cash at the 
 beginning and close of the year in the principal adminis- 
 strative funds, such as the general funds and special funds 
 for different purposes requiring the reservation of cash 
 and expenditures for specifi,ed purposes only. 
 
 To be of the greatest administrative assistance, as well 
 as of the greatest vafue to the general public, summaries 
 should classify payments and receipts as described on pre- 
 ceding pages, at least to the extent shown in the analysis 
 of Tables 3 and 4 of the present report. The receipts thus 
 summarized should include all amounts taken in by the 
 treasurer or treasurers for any purpose and from any 
 source, and should be classified so as to show the amounts 
 received, respectively, from the public and from depart- 
 ments of the Government. The amounts received from the 
 public should be further separated so as to show those 
 received for meeting costs of government and those received 
 for other purposes; and the amounts received for meet- 
 ing costs of government should be arranged in groups which 
 will show the amounts obtained from specified principal 
 sources of revenue and the amounts received from credit 
 transactions which increase the net indebtedness of the 
 nation, state, or municipality. 
 
 On the other side of this summary the payments includ- 
 ing all amounts paid out or disbursed by the fiscal officers 
 for any purpose and to any person, should be classified 
 
ACCOUNTINa TERMINOLOGY 305 
 
 as 'described above for receipts, into those paid to the 
 public and those paid to the departments of the Govern- 
 ment; and in turn, those paid to the public should be sep- 
 arated into those for meeting costs of government and 
 those for other purposes or objects. Payments for meet- 
 ing costs of government should include all amounts paid 
 out by the preparation and delivery, or the preparation 
 only, of audited bills or vouchers, or warrants by the comp- 
 troller or auditor, for the principal classes of expenses, 
 interest, and outlays, and all amounts disbursed by the 
 treasurer under circumstances or conditions which lessen 
 the aggregate of public indebtedness. 
 
 Such a summary will disclose at a glance the relation 
 of correct administration to public indebtedness. The na- 
 tion, state, or municipality which has an excess of revenue 
 over all current costs of government, including expenses, 
 interest, and outlays, is, for the time being at least, de- 
 creasing its indebtedness. Such a decrease may be the 
 result of conservative and economical administration which 
 uses public credit only for meeting exceptional, non-recur- 
 ring, or ^^extraordinary" costs of government; or it may 
 result from the fact that the Government has reached the 
 limit of its debt-incurring power, and as a result of neces- 
 sity, must pursue a saner administration that in some re- 
 spects is along the same lines as an administration of the 
 character just mentioned. The nation, state, or munici- 
 pality, whose expenses and interest exceed or even ap- 
 proximate the amount of its revenue, has entered upon a 
 course which if not changed will, even with the greatest 
 increase in local wealth, sooner or later bring it to the 
 limit of its borrowing power. Governmental officials and 
 writers on public finance are not agreed as to what should 
 be the true policy of nations, states, and municipalities 
 with reference to public indebtedness; and at the present 
 time definite facts relating to the amount of public indebt- 
 edness and the relation of current governmental transac- 
 
306 ACCOUNTING TERMINOLOGY 
 
 tions to that indebtedness are needed even more than dis- 
 cussion of the true policy of governmental administration. 
 Under such circumstances, nothing can be done by govern- 
 mental fiscal officers and accountants to assist in opening 
 the way for the final determination of the true policy of 
 governments with reference to public debt that would 
 prove to be of as much value as the presentation of sum- 
 maries such as those above described, which show clearly 
 and exactly all the facts about revenues and costs of gov- 
 ernment as outlined, and disclose the present drift of the 
 nation, state, or municipality with reference to public 
 indebtedness. 
 
 To be of the greatest value, a summary of payments 
 and receipts such as that described must be based upon 
 accurate accounts, and be associated with promptness and 
 dispatch in the conduct of business. The payments to be 
 included in the summary of expenses, interest, and out- 
 lays are those represented by the audited bills or warrants 
 drawn by the auditor or comptroller upon the treasurer. 
 If such bills or warrants are always issued promptly after 
 presentation of just claims, they represent the current costs 
 of government as perfectly as the expense account of the 
 best-managed private corporations represent current costs 
 of operation. If, however, claims are not presented when 
 they accrue, or are not audited and paid by warrant 
 promptly upon presentation, neither the accounts nor the 
 summaries are records or statements of the current costs 
 of government, and such accounts and summaries will con- 
 tinue to have a considerable margin of error until the Gov- 
 ernment corrects its method of transacting business. This 
 is far more vital than changes in methods of accounting, 
 which are to be considered factors for good only so far as 
 they assist in stimulating and enforcing correct methods 
 of administering business. 
 
 4. Summary of Budgetary Expenditures. — The gov- 
 ernments of most American cities prepare more or less 
 
ACCOUNTING TERMINOLOGY 307 
 
 elaborate budgets or statements of expenditures to be met 
 from current revenue. Some of these cities include all 
 their costs of government in such a budget, and thus meet 
 from revenues not only their current operating expenses 
 but all amounts required for outlays and those to be trans- 
 ferred to sinking funds or employed for other specified 
 purposes. Summaries of receipts and payments arranged 
 as stated in the preceding section will show the relation 
 of revenue receipts to costs of government, and the formal 
 payments for the liquidation of indebtedness. These sum- 
 maries, however, will not exhibit the relation between the 
 revenue receipts, or revenue, and the paj^ments other than 
 those for current expenses and interest made specially 
 payable from current revenue by the terms of the appro- 
 priation or revenue acts. A complete summary of revenue, 
 or revenue receipts, and budgetary expenditures or the 
 expenses and other charges made specifically chargeable 
 to current revenue, is a statement of considerable admin- 
 istrative significance and assistance. Such statements are 
 at the present time very frequently presented under the 
 term *' summary of revenue and expense," a term which 
 is not strictly applicable to them, since the designation 
 "expense" is not a proper one to use in referring to 
 amounts transferred to sinking funds, disbursed for meet- 
 ing the costs of outlays, or for similar purposes, even 
 though paid from revenue. A better, because more de- 
 scriptive, designation for referring to all these amounts 
 made payable from revenue by the specific terms of the 
 appropriations is "budgetary expenditures." 
 
 5. Summaries of Revenues and Expenses.— A govern- 
 mental summary of revenues and expenses is a statement 
 which shows on the one side, either in a single entry or 
 in a number of specific entries, the amount of accruing 
 revenues for a given fiscal year, and on the other side the 
 accruing expenses for the same period. By accruing rev- 
 enues is meant the amount of revenue that is entered in 
 
308 ACCOUNTING TERMINOLOGY 
 
 the accounts to the credit of that year. In practice, it 
 is the amount charged in revenue accounts as that which 
 ought to be collected from various sources for govern- 
 mental uses. By accruing expenses are meant those which 
 have been approved and audited by the proper account- 
 ing officer. In all the best-managed cities the accruing 
 expenses here mentioned are identical with the warrant 
 payments for expenses by the comptroller or auditor. 
 They correspond to the amounts that would be charged 
 to expenses in an^^ well-managed corporation. With poor 
 governmental management the warrant pajrtnents are 
 more or less defective measures or statements of the costs 
 of government, but no more trustworthy or accurate ex- 
 hibit of such costs can be obtained by any system of ac- 
 counting until or unless the business administration of 
 the city is improved. 
 
 In theory, at least, accrued governmental revenues 
 correspond to the accrued revenues of a private business, 
 which are always employed to measure the current profit 
 or loss of an enterprise. The accrued revenues of a pri- 
 vate business always tend to increase the profit or decrease 
 the current losses. For administrative purposes these ac- 
 cruals must be placed over against the accruals of expens- 
 es. In the business of governments considered as the 
 agents of the nation, state, or municipality, accrued rev- 
 enues never become factors in any important administra- 
 tive problem other than that which concerns their collec- 
 tion, to which attention has previously been called. Ap-^ 
 propriations are made on the basis of estimates of reve- 
 nue receipts, and not revenue charged or to be charged 
 on the books; and in this and in other ways revenue re- 
 ceipts and warrant expenses, and other costs of govern- 
 ment met by warrants, become the essential factors in the 
 important administrative problems of government. For 
 this reason, such summaries of receipts and payments as 
 those already; described become of supreme administra- 
 
ACCOUNTING TERMINOLOGY 30i 
 
 tive value and importance, and summaries of revenues and 
 expenses are only statements of academic or theoretical 
 significance notwithstanding their vital importance in pri- 
 vate accounting. 
 
 6. Miscellaneous Summaries. — In addition to the fore- 
 going summaries which, with the exception of the type 
 last mentioned, are prepared in one form or another by 
 most American cities, there are many other kinds of sum- 
 mary statements employed in connection with the financial 
 administration of municipalities. The great majority of 
 such statements are arranged for the purpose of summariz- 
 ing data that are of special administrative significance to 
 the city preparing them, by reason of the operation of 
 state laws or specific local regulations. In the present 
 connection, however, it will be sufficient to mention only 
 two of these summaries. 
 
 In cities where general property taxes are never col- 
 lected in the year when levied, or in the fiscal year on 
 whose accounts they are carried, some account must be 
 kept which, like a summary statement, will disclose the 
 relation between the tax levies and the revenue loans 
 issued in anticipation of their collection. Such summaries 
 may never be included in formal printed reports, but they 
 constitute important memoranda for the guidance of fiscal 
 officers issuing and of bankers providing governmental 
 loans. 
 
 A summary of the same general nature is prepared 
 by cities showing that their sinking fund assets and their 
 method of accumulating such assets suffice to provide the 
 funds for liquidating all loans when due. 
 
 7. Summaries of Current Funds and Accounts.— All 
 the summaries hitherto described are simple in form and 
 easily understood by all. With few exceptions each, di- 
 rectly or indirectly, shows the relation of two classes of 
 financial data. The most vital facts in each case may be 
 summed up in a balance-sheet form, although some of them 
 
310 ACCOUNTINa TERMINOLOGY 
 
 may be presented better in a form that approximates that 
 of a private profit and loss account. Many cities content 
 themselves with keeping accounts and printing separate 
 summaries such as those already described; while others 
 endeavor to include part or all of the data included in 
 summaries of the types described under 1, 2, and 3, together 
 mth certain other data, in a single statement which may 
 be called a statement of condition, corresponding in gov- 
 ernmental business to that section of the balance sheet 
 of a private business which includes current assets, lia- 
 bilities, and proprietary interests. Such summaries are 
 given many different names, and may best be described 
 by calling them summaries of current funds and accounts. 
 Such a summary will show at the beginning of a fiscal year 
 on the debit side (1) the cash on hand, as indicated in 
 the outline of *' summaries of receipts and payments," and 
 (2) the estimated receipts for meeting governmental costs, 
 as described under ** summaries of governmental receipts"; 
 and on the credit side (3) the debt liabilities to be met 
 during the current fiscal period or directly from the assets 
 credited to that period and (4) the expenditures authorized 
 for the fiscal period by general and special appropriation 
 acts. The balance between the two sides, if on the credit 
 side, represents current resources available for future ap- 
 propriation or for meeting indebtedness, or for making 
 investments; while a debit balance marks a prospective 
 deficiency which must be met by the creation of a per- 
 manent or floating debt. 
 
 The amounts to be included in a summary such as is 
 here outlined for any date subsequent to the opening of 
 the fiscal year will be for (1) and (3J, respectively, the 
 cash in the treasury and the outstanding liabilities at the 
 date of the summary. The corresponding amounts to be 
 included under (2) will be those of the original estimated 
 receipts less the cash obtained from sources that have not 
 created a liability to be included under (S); and the 
 
ACCOUNTING TERMINOLOGY 311 
 
 amounts to be similarly included under (4)" will be those 
 of the original appropriations less the expenditures pre- 
 viously made in consonance with the terms of the appro- 
 priation acts. 
 
 Such a summary is not a statement of a business em- 
 ploying proprietorship accounts, but of one employing 
 fiduciary accounts. It shows on the one side the cash in- 
 trusted to the Government for governmental uses, and the 
 amounts which the Government is expected to realize from 
 specified sources for those uses, or the failure to realize, 
 which it is expected to explain. It exhibits on the other 
 side the debts and expenditures to be met or authorized 
 to be met from the amounts first mentioned, and thus the 
 specific uses to which the amounts first mentioned are ap- 
 plied. Such a summary, therefore, brings into one state- 
 ment an exhibit of the current administrative problems 
 of the executive officers, including the fiscal and other 
 officials. 
 
 On previous pages mention has been made of the fact 
 that in recent years some American cities have installed 
 proprietorship accounts to take the place of the earlier 
 fiduciary accounts. The great majority of accountants who 
 are engaged in installing these accounts insist that in such 
 a scheme it is improper to include in a summary of condi- 
 tion such as the one here referred to any such exhibit as 
 that mentioned under (2). These accountants contend 
 that from the standpoint of proprietorship it is inadmis- 
 sible to include in the summary any revenues that have 
 not accrued and become charges against definite persons. 
 If this contention is soimd in theory and law, as it appears 
 to be, these accounts should show in the summary of cur- 
 rent funds and accounts only the revenues which have 
 actually accrued. The summary as thus prepared would 
 show a greatly fluctuating proprietary interest through the 
 year, as if the city credit or basis of credit were fluctuat- 
 ing with the formal levying of taxes and the collection of 
 
S12 ACCOUNTINa TERMINOLOGY 
 
 revenue. As stated on previous pages, the test of all ac- 
 counts is in the administrative assistance which they 
 render the officials responsible for good government, and 
 time alone can decide which of the two systems of accounts 
 is more desirable — those first described, whose summaries 
 show each month what the executive officers are author- 
 ized to do and the resources on which the authorizations 
 are based, or those of the latter type, whose summaries 
 disclose not what is to be done and how it is to be done, 
 but what has been formally charged as amounts owed by; 
 or owed to the city. 
 
 8. Summary of Investments, Properties, and Accumu- 
 lations. — The summaries heretofore described are primarily 
 exhibits of official responsibility and public obligations to 
 be met and the resources provided or expended for meet- 
 ing them during a limited fiscal period, principally in the 
 future; but governmental accounts should not only look 
 to the future but be records of the past. They should 
 summarize the outcome of past transactions so far as their 
 results provide properties and public improvements for the 
 use of the present and future, or lay burdens of debt and 
 taxation upon the present and future. The accounts in 
 which these records are kept may be made an essential 
 part of the circle of accounts from which are obtained the 
 data for the summary last described, or they may be re- 
 corded in an independent circle of accounts, as may seem 
 most convenient. i 
 
 A governmental summary which will provide the infor- 
 mation outlined above must show on the one side (1) all 
 funds with investments which are held for governmental 
 uses, such as sinking funds, public trust funds for gov- 
 ernmental uses, and general investment funds, and (2) all 
 governmental properties — productive and non-productive 
 — and public improvements; and on the other side (3) the 
 fixed or funded debts incurred in the past; (4) the amounts 
 of the fxrnds and properties acquired as the result of free 
 
ACCOUNTINa TERMINOLOGY 313 
 
 contribution from the public, either with or without speci- 
 fied conditions, and those set aside for specified purposes; 
 and (5) the amounts acquired from compulsory revenues. 
 All amounts included under (4) and (5) constitute revenue 
 accumulations for the more or less permanent uses of the 
 Government, and correspond to the proprietary interests 
 of an enterprise conducted for profit and employing pro- 
 prietorship accounts. Of these amounts, those included 
 under (4J correspond to those amounts which, in the case 
 of a private enterprise, are reserved or constitute its sur- 
 plus reserves. 
 
 9. General Governmental Summaries. — A few govern- 
 mental accountants and governmental officers are giving 
 thought to the preparation of general summaries of gov- 
 ernmental financial condition. They would include in such 
 summaries all data presented in the summaries outlined 
 under 7 and 8. No summary along this line has yet 
 been prepared that has been satisfactory to more than a 
 limited number of those interested, since it has either been 
 so complex as to be readily understood by only a few, or 
 it has omitted some facts of administrative importance, 
 and thus has been an imperfect and often misleading ex- 
 hibit. Until or unless some more simple method of sum- 
 marizing all the financial data of administrative impor- 
 tance is devised than has yet been presented to the public, 
 [the average city official and the average private citizen 
 will find far more of interest and of administrative value 
 in the summaries previously described than in the one here 
 referred to. 
 
 Names of Governmental Summaries. — The average com- 
 mercial accountant knows of but two business summaries^ 
 the one which he calls ''balance sheet" and the one called 
 "revenue and expense" or "profit and loss" account. 
 "When he is called in as an expert to arrange governmental 
 accounts, he applies these names with but little discrimina- 
 tion to governmental statements, and hence we find Amer- 
 
314 ACCOUNTINa TERMINOLOGY 
 
 ican cities referring to all the summaries mentioned, re- 
 spectively, imder 1, 2, 3, 7, 8, and 9 as balance sheets, 
 or trial balances, although no one city applies the 
 designation mentioned to more than one of these state- 
 ments. None of these governmental summaries above re- 
 ferred to, and none of the others which have been de- 
 scribed, is a true balance sheet in the sense in which that 
 term is employed in private business for gain. They are 
 all governmental statements, and should be given designa- 
 tions which are as little as possible associated with sum- 
 maries of private enterprises for gain, in the same way 
 that those summaries are distinct in name and in form 
 from those for private fiduciary accountiQg. 
 
SECTION C. 
 
 SOME RECENT CHANGES IN GOVERNMENT 
 ACCOUNTING* 
 
 BY H. PARKER WILLIS, Ph. D. 
 
 Government methods of transacting business are not 
 of the inadequate type sometimes described. They are 
 in the main well-suited to their purposes, and, though far 
 more expensive than those which would be applied by a 
 commercial establishment, they are usually reliable. Their 
 chief defect has come from the entire independence of 
 different departments of the Government, the jealousy of 
 cabinet officers toward one another, the inertia of bureau- 
 cratic officials remaining in office year after year and un- 
 willing to modify old methods in spite of changes in busi- 
 ness conditions. Because of these factors 'in the situation, 
 and because the development of government departments 
 has been rapid and irregular within recent years, new 
 functions being taken over by a process of accretion with- 
 out corresponding organic changes in administrative struc- 
 ture, a growing number of readjustments and improve- 
 ments have been called for by the actual conditions of the 
 public service. Needed changes included not only altera- 
 tions in methods of accounting, but also innovations in 
 modes of purchasing supplies, conducting the manufactur- 
 ing operations of the Government, and checking the dis- 
 bursement of money. Attention has often been called to 
 the necessity of such changes prior to the administration 
 of President Roosevelt. The postal scandals, the unsatis- 
 factory and discreditable conditions in the Government 
 
 * Repronted from Journal of Accounting, April, 1909. 
 
 315 
 
816 HENRY PARKER WILLIS 
 
 Printing Office, and the poor quality of organization in the 
 post-office department, as well as disparity in methods of 
 purchasing supplies, once more emphasized the need al- 
 ready recognized early in Mr. Roosevelt's term of office. 
 Coupled with these were several striking and unfortunate 
 shortages on the part of disbursing officers of the United 
 States. In order to ascertain the direction properly to be 
 taken by the needed innovations, the methods of their 
 introduction, and the additional cost thereby entailed, 
 President Roosevelt appointed, about the middle of 1905, 
 a committee of executive officers, which was officially 
 known as the "Committee on Department Methods." 
 Through the direct efforts of this organization, which 
 associated with itself a large number of sub-committees 
 comprising in all some seventy different subordinate of- 
 ficers of the Government, a general overhauling of public 
 business methods was undertaken. The changes proposed 
 by the committee, and actually introduced upon its sug- 
 gestions, included matters of internal organization, depart- 
 mental relations, modes of purchasing and contracting, and 
 many others. A complete account of the alterations in 
 business methods thus brought about would require an 
 elaborate treatment. It is proposed here merely to sug- 
 gest some of the typical changes in modes of accounting 
 which have been produced largely as a result of the in- 
 vestigations of the committee. It is not true in all cases 
 that the new methods now employed were directly adopted 
 at the instance of this committee, but it may fairly be 
 said that in the majority of cases they were a result of 
 the general movement of which the labors of the committee 
 constituted the most striking feature. All that will be 
 attempted in the present review is to select a representative 
 example of each of the important classes of changes that 
 have been introduced largely imder the influence or inspi- 
 ration of the committee, and to explain it as illustrative 
 
CHANGES IN GOVERNMENT ACCOUNTING 317 
 
 of tHe new point of view which has been adopted by the 
 administration. 
 
 Treasury Accounting. 
 
 Although not the earliest in point of time, the most 
 important suggestion made by the committee relates to 
 the accounting system of the Treasury Department. The 
 Treasury has always pursued an efficient system of ac- 
 counting, but its results have been such as required much 
 explanation as well as intimate acquaintanceship with the 
 methods pursued in the other departments. Briefly sum- 
 marized, the plan of accounting followed by the Treasury 
 prior to 1907 was as follows: 
 
 ^v *rour classes of warrants were recognized by the de- 
 partment, and all moneys covered into or paid out of the 
 Treasury were (and are) required to be covered or paid 
 upon the appropriate one. The four classes of warrants 
 were appropriation warrants (issued for the purpose of 
 crediting appropriation accounts with funds); pay war- 
 rants (authorizing the Treasurer of the United States to 
 pay out funds either later to be accounted for by disburs- 
 ing officers or else for the purpose of settling amounts 
 due by the United States to creditors) ; covering warrants 
 (authorizing the Treasurer to take up in his general ac- 
 counts deposited revenues or funds held by disbursing 
 officers and re-deposited in the Treasury); and transfer 
 and counter warrants (issued for the purpose of charg- 
 ing one appropriation and crediting another in order to 
 bring about an adjustment). With this legal basis, the 
 division of bookkeeping and warrants in the Treasury was 
 in the habit of keeping registers of revenue warrants, 
 
 * A complete official account of treasury methods of accounting is found 
 in the document entitled "Information Relating to the Accounting System of 
 the United States Treasury Department/' compiled by Robert S. Person, and 
 published by the Government Printing Office in May, 1905. The report on 
 ■which the recent changes have been based was issued for private circulation 
 by the Committee on Department Methods as a "Report to the President by 
 the Committee on Department Methods. Treasury Bookkeeping." January 
 19, 1907. 
 
318 HENRY PARKER WILLIS 
 
 registers of paid warrants, and registers of re-pay war- 
 rants. Appropriation warrants were never registered, but 
 were themselves bound after being posted. Appropria- 
 tion ledgers were kept, and also personal ledgers relating 
 to collecting officers, disbursing officers and special ac- 
 counts. The appropriation ledgers were posted from reg- 
 isters of warrants, while personal ledgers were posted 
 either from warrants of the kinds specified or from audi- 
 tors' certificates. 
 
 From this review it is seen that the result of the books 
 was merely a classification of gross revenue collections 
 and of gross warrant withdrawals. No trial balance would 
 be possible, and blunders could be detected only through 
 careful work by auditors and the clerks in the Treasury 
 Department. The defect of the system was the inability to 
 prove the correctness of the accounting at any given time, 
 and also the difficulty of exhibiting in convenient form the 
 precise status of each appropriation as well as of the bal- 
 ances in the accounts of officers of the United States. 
 
 As a central necessity in the reorganization of treasury 
 bookkeeping, the Committee on Department Methods 
 recommended the introduction of a comprehensive system 
 of double entry. The problem was to provide a debit and 
 credit side for all accounts, including revenues and ex- 
 penditures. The change implied the introduction of fi,ve 
 new books not previously kept by the department, viz., 
 the general ledger, the journal, the ledger of revenues, the 
 ledger of expenditures, and the register of auditors' certifi- 
 cates — the first two books to be written up only once a 
 month. A form of journal voucher embracing the entire 
 transactions was recommended, these vouchers to be 
 spread upon the journal after being certified and approved. 
 The journal was to be posted to the general ledger pro- 
 viding general accounts with the Treasurer of the United 
 States, collecting and disbursing officers, with individuals 
 and firms with whom business was done, witK revenueig 
 
CHANGES IN GOVERNMENT ACCOUNTING 319 
 
 by five general classes (customs, postal, internal revenue, 
 sales of public lands, and miscellaneous), with appropria- 
 tions, with expenditures, with warrants, deposits and with- 
 drawals, and with other proper accounts. It was argued 
 that these innovations would enable the status of each ac- 
 count in the aggregate to be determined in advance, would 
 insure correct details, would compel a balance of all ac- 
 counts, and would anticipate detailed balances of the sev- 
 eral accounts, and compel their correctness, while requir- 
 ing consistent and comprehensive statements of items en- 
 tered in auditors' certificates. At the end of the year it 
 would show the status of all the accounts, the opening 
 balainces of all accounts, the revenues, the expenditures, 
 the miscellaneous transactions incident thereto, and the 
 final balances in all accounts. The plan was approved by 
 a select committee of public accountants appointed by The 
 American Association of Public Accountants, and was or- 
 dered put into operation. 
 
 In a final order issued July 14, 1908, specified defini- 
 tions of general accoimts were ordered to be observed sub- 
 sequent to that date, and all certificates of settlement of 
 accounts thereafter were to be made and declared on a 
 similar basis. Under the head of general accounts, six 
 general classes were recognized. The first included five 
 general accounts — customs revenue, postal revenue, inter- 
 nal revenue, public lands, and miscellaneous revenue. The 
 second and third general classes of expenditures included 
 four general accounts — expenditures excluding reductions 
 of public debt, the return of trust funds, etc., the public 
 debt (payments of interest, however, being charged not to 
 this account, but to that of expendituresj, special funds, 
 disbursements from which were to be charged to expendi- 
 tures, and trust funds, to be credited with receipts of trust 
 funds, and charged with disbursements from trust funds. 
 The fourth general class included personal accounts — those 
 with the Treasurer of the United States, those with fiscal 
 
P20 HENRY PARKER WILLIS 
 
 officers, and those with the District of Columbia. Class 
 five included so-called '^ record accounts," these being two 
 in number — appropriations, and available funds. Class six 
 consisted of clearing accounts, and included treasury de- 
 posits, charged with items certified for credit to fiscal offi- 
 cers, accountable warrants, settlement warrants, warrants 
 account, transfer of funds, advances to fiscal officers, and 
 credits of fiscal officers. To these general accounts there 
 was added a special class of accounts entitled balances, 
 being a continuation of the former balance account, and 
 including with each year the balances of the preceding 
 year's accounts of audited revenues and expenditures. To 
 this account would be charged the additional credit bal- 
 ances and credited the additional debit balances in fiscal 
 accounts brought into the books of the current year. It 
 was further ordered that the division of bookkeeping and 
 warrants should not keep separate accounts with collect- 
 ing and disbursing officers by appropriations, but should 
 keep separate accounts with officers, corresponding to the 
 accounts required to be rendered by them to the several 
 auditors of the Treasury Department. In calling for the 
 bookkeeper's certificate of balances due from collecting 
 and disbursing officers and other depositors, it was direct- 
 ed that the auditor should indicate the period covered by 
 the account about to be settled, and request a certificate 
 from the division of bookkeeping and warrants of charges 
 and credits covering that period only. 
 
 Disbursing Officers* Vouchers and Balances. 
 
 An important change in the methods of treasury ac- 
 counting formerly in use has further been made in connec- 
 tion with disbursing officers' checks and vouchers, and 
 the verification of disbursing officers' balances.* Under 
 
 *The recommendations to the President on this topic made by the Com- 
 mittee on Department Methods are found in the "Report to the President of 
 the Committee on Pepartment Methods"; Assembling Disbursing Officers' 
 
CHANGES IN GOVERNMENT ACCOUNTING 321 
 
 tlie system in vogue prior to 1907 the expenses of govern- 
 ment were paid by either of two methods: (1) A treas- 
 ury warrant was issued, upon an auditor's certificate, in 
 favor of the public creditor. This method of payment was 
 commonly known as a direct settlement. (2) Disbursing 
 officers who had received advances from the Treasury paid 
 public creditors (usually by check) and took a receipt, 
 which became the voucher on the basis of which the dis- 
 bursing officer claimed credit in rendering his accounts to 
 the auditor. Of the two the system of paying through 
 disbursing officers covered far the larger part of the ex- 
 penses of the Government. 
 
 Investigation showed that disbursing officers were in 
 the habit of securing receipts from public creditors in ad- 
 vance of payment, the creditors frequently signing re- 
 ceipts in blank, leaving the dates and amount to be filled 
 in as occasion required. Duplicate vouchers, and in some 
 cases triplicate or even quintuplicate vouchers, were se- 
 cured by the disbursing officers and offered a correspond- 
 ing opportunity for fraud. Whenever a disbursing officer 
 stated his account to the appropriate auditor and acknowl- 
 edged a certain balance due to the United States nothing 
 was done by the auditor to verify that statement. In many 
 cases disbursing officers have been short in their accounts 
 for years, acknowledging a given amount to be due the 
 United States, when as a matter of fact they did not have 
 the acknowledged amount in hand. Various efforts to cor- 
 rect the situation have been unsuccessful. In looking 
 over the conditions, the Committee on Department Meth- 
 ods recommended that the receipt habitually taken in ad- 
 vance should be abolished, and that in place of it should 
 be provided a form of certificate to be signed by the claim- 
 ant. The claimant's certificate was to be followed by the 
 certificate of the proper administrative officer approving 
 
 Checks- and Vouchers, and Verification of Disbursing Officers' Balance?;. The 
 order putting these recommendations into efifect was issued as Department 
 Circular No. 52, July 29, 1907. 
 
 B— VIII— 2X 
 
322 HENRY PARKER WILLIS 
 
 the claim, while the check to be delivered in paying the 
 account in question should state upon its face the object 
 for which dra^^m, and also the number of the voucher in 
 payment of which it was drawn. It was recommended 
 further that assistant treasurers and national-bank de- 
 positaries should render monthly statements just as for- 
 merly to each disbursing officer having funds on deposit 
 with them, but should at the same time send to the Treas- 
 ury Department for distribution to the proper auditors 
 duplicates of the statements sent to the disbursing officer, 
 accompanied by such officer's paid check listed in the state- 
 ments. The auditor would thus have the means of check- 
 ing up each statement, and ascertaining accurately whether 
 or not a given disbursing officer had in his hands or on 
 deposit to his official credit and not covered by outstand- 
 ing checks, the amount of his stated balance. In order to 
 test the proposed scheme, experiments were undertaken, 
 and from these it was concluded that the new system, be- 
 sides its technical advantages, would be comparatively 
 cheap, involving an additional outlay of probably not more 
 than six per cent of the existing work of the accounting 
 officers. Working on the basis of these suggestions, the 
 Secretary of the Treasury issued an order introducing sub- 
 stantially the system recommended by the committee which 
 is now in practical operation. 
 
 In putting the new system into effect there has naturally 
 been some necessity for innovation, retraining of clerks, 
 and adjustment of old methods to new. This process has 
 not been without its friction, and some of the older officers 
 of the department have been inclined to question the wis- 
 dom of adopting the double entry system with its greater 
 amount of detail and labor. Thus the auditor of the Navy 
 Department in reporting for the year 1908 states flatly 
 as the reason why his office fell seriously behind in its 
 work during the year, the considerable amount of "extra 
 work" necessitated by the new system, and the labor in- 
 
CHANGES IN GOVERNMENT ACCOUNTING 323 
 
 volved in training the clerks to follow the system. Time 
 has not yet been allowed for a thorough and complete test 
 of the efficiency of the new method, nor is it absolutely 
 certain whether the greater convenience and certainty 
 attained under the new plan will make up fully for the 
 greater labor and costliness involved in the additional 
 bookkeeping operations which have been necessitated. 
 That the plan is a substantial improvement from the ac- 
 countant's standpoint there can be no question, while the 
 publication of more and clearer details with reference to 
 government fiscal operations will be made practicable 
 under it. 
 
 Introduction of Cost Accounting. 
 
 An Important aspect of the new movement for better 
 business methods in the public service is seen in the recent 
 effort to put the various manufacturing activities which 
 the Government conducts upon somewhat the same plane 
 that is occupied by similar undertakings in private hands. 
 By this is not meant that there has been any effort to 
 introduce a lower standard of payment or to reduce wages 
 paid by the Government to commercial standards. On the 
 contrary, the work of the Committee on Department Meth- 
 ods, as well as that of the systematizers and reorganizers 
 of the Government generally, has recognized a high stand- 
 ard of payment with due recognition of the older workers 
 as a necessary feature of the public service, and as a de- 
 sirable part of the Government's duty in upholding a suit- 
 able example for private employers to work toward so far 
 as competitive conditions permit. What has been sought 
 is an understanding of the actual use made of public 
 moneys, and more careful analysis of the ways in which 
 they have been expended, with a corresponding analysis 
 of the results accruing from such outlay. The public enter- 
 prise which most nearly approaches a commercial type of 
 organization at the present time is the Government Print- 
 
g24 HENRY PARKER WILLIS 
 
 ing Office, an establishment toward whose systematization 
 various officials have for years been struggling without 
 result. 
 
 Government Printing Costs.* 
 
 The great problem of the Government Printing Office 
 for many years past has been that of ascertaining costs 
 sufficiently accurately to permit of correct charges to the 
 several departments on a basis that would allow the office 
 to come out clear and without a deficit at the end of the 
 year. That the officials have found it impossible to attain 
 this end may be seen from a tabulation prepared during 
 certain inquiries at the Government Printing Office directed 
 by President Eoosevelt, which exhibits the resources or 
 appropriations, disbursements, unexpended balances, sales, 
 and disbursements in excess of sales over a period of years. 
 From this it is seen that the disbursements in excess of 
 sales during the years 1900-1907 inclusive, amounted to 
 $7,962,307. During the same period expenditures for plant 
 properly chargeable to the years in question approximated 
 $3,100,000. A difference of about $5,000,000, therefore, rep- 
 resents the discrepancy between actual receipts for the 
 coromercial services of the institution and outlays for carry- 
 ing it on.f In fact, since 1900, Congress has been incurring 
 an expenditure of about $600,000 a year over and above 
 the income earned by the office. The conclusion that a 
 system of cost accounting was needed which would place 
 the charges for printing upon the different departments 
 to which they properly belonged, was therefore irresistible. 
 
 An investigation into conditions in the printing office 
 by the Committee on Department Methods was originally 
 
 * For information with reference to the system of accounting and cost 
 keeping in the Government Printing Office I am indebted to Hon. John S. 
 Leech, late Public Printer, and to his associates in the work of the office, 
 especially to Mr. Vipond, the head of the Accounting Division, and Mr. Ken- 
 dal, the Assistant Superintendent of Work. 
 
 ' t Hon. W. S. Rossiter made a complete investigation of the office by 
 direction of the President, and the above data, are taken from his report. 
 
CHANGES IN GOVERNMENT ACCOUNTING 325 
 
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926 HENRY PARKER WILLIS 
 
 directed by President Roosevelt for the purpose of secur- 
 ing information as to certain contracts and methods about 
 which doubt was felt. Tliis investigation broadened into 
 an inquiry into the cost of public printing and the possible 
 lines of economy. It was about the time of this secondary 
 investigation that Public Printer Palmer resigned and was 
 followed by Charles A. Stillings. The new public •printer 
 was disposed to give due weight to the suggestions which 
 had been made by the Committee on Department Methods, 
 and among others he found the following, which had been 
 laid before President Roosevelt in a report made Janu- 
 ary 2, 1906: 
 
 There should be established in the Government Printing Office a proper 
 system of cost keeping. There is not, and never has been a system of cost 
 keeping in that establishment. The charges made against the various depart- 
 ments for work ordered to be paid for out of the department allotments for 
 printing do not accurately reflect the cost of the work. ._ . . An accurate 
 system of cost keeping . . . would . . . also permit the cost of work 
 in the printing office to be better compared with that of private establish- 
 ments. It would enable standards of cost for the solid, tabular, and other 
 kinds of work to be established. It would also disclose the actual saving from 
 the adoption of new devices and machinery and whether the results obtained 
 equal those obtained by others using the same devices. In the institutionof 
 such a cost-keeping system in the printing office the service of an outside 
 expert could be profitably used. ... The establishment of a cost keeping 
 system in a large printing establishment is a complicated rnatter, and the use 
 of a specialist in instituting an accurate system is almost indispensable. 
 
 Acting upon this suggestion, the public printer intro- 
 duced, so soon as he was able to obtain the requisite appro- 
 priations from Congress, a cost-keeping plan known as the 
 ** audit system. '^ This was established by a New York firm 
 at a total cost for the system itself and the supplies needed 
 under it of about $130,000. Inasmuch as the cost of public 
 printing did not decrease, but was added to by the unusu- 
 ally large cost of the new system of accounting, the innova- 
 tion made by Mr. Stillings did not meet with approval. 
 A special investigator, directed by President Roosevelt 
 to look into the situation in the office, terminated the con- 
 tract with the firm which had established the ** audit sys- 
 tem," and largely curtailed the operations involved in the 
 ieost-keeping plan. Reporting upon the system, which will 
 
CHANGES IN GOVERNMENT ACCOUNTING 327 
 
 not be reviewed here because of its practical elimination, 
 this investigator said: 
 
 It ... is principally to be criticised upon the score that in an 
 
 attempt to secure all classes of detail, the amount of labor entailed upon 
 each employe for the purpose of recording necessary facts, and the amount 
 of labor required for subsequent tabulation were so great as to make the 
 system almost prohibitive. 
 
 Subsequent to assuming office, June, 1908, Hon. Jobn 
 S. Leech, who succeeded Mr. Stillings in the control of 
 the Government Printing Office, undertook a complete re- 
 organization of the system of cost accounting which had 
 been introduced, recognizing it as most desirable that such 
 a system be applied to the work of the office, though he 
 did not approve of the plans that had been attempted by 
 his predecessor under the advice of the f ramers of the audit 
 system. Mr. Leech's methods of cost accounting were of 
 exceptional interest, because they had been worked out 
 by himself as a result of many years' experience, first in 
 the Government Printing Office at Washington, and later 
 as public printer in the Philippines, where he was in charge 
 of the printing establishment of the Philippine Commission. 
 The main ideas accepted by Mr. Leech as the founda- 
 tion of his cost system are two in number: 
 (IJ The adoption of appropriate systems of measuring cost 
 in each productive operation, without any effort to 
 pursue an absolutely uniform system of measurement 
 for all operations. 
 [(2J The abandonment of the idea of apportioning indi- 
 vidual costs to particular pieces of work, and the sub- 
 stitution in lieu thereof of a fixed scale of uniform 
 charges which is applied to each job whose perform- 
 ance is proposed. The results of the cost-accounting 
 system are employed solely for the purpose of vary- 
 ing this scale of charges in order to approximate it 
 as nearly as possible to average cost. j 
 
 The problem before the Government Printing Office 
 differs from that presented in a commercial establishment 
 
g28 HENRY PARKER WILLIS 
 
 in some particulars. The office is provided with a com- 
 plete and costly plant situated in a government building. 
 No effort is made to allow for interest on the capital in- 
 volved in this building or in the original establishment 
 of the plant which it contains. These are regarded as given 
 quantities. What the office seeks to do is to find out how 
 much is being spent upon the repair and maintenance of 
 machinery and tools that are worn out, upon the acquisi- 
 tion of new supplies and stores, and upon the purchase 
 of labor from week to week. It then endeavors to appor- 
 tion these costs to the various divisions in which they are 
 incurred. Before going into the strictly cost accounting 
 features of the work, it is worth while to devote some at- 
 tention to certain more general aspects of Government 
 Printing Office accounting. 
 
 Beginning before the actual entry of supplies into the 
 office, a system has been devised for keeping account of 
 orders. This is known as the ''order record." In it are 
 compiled all purchase orders after the same have been 
 made up and approved in due form. These puj'chase 
 orders are recorded upon one side of the book, while upon 
 the opposite side in similarly headed columns are recorded 
 the quantities of goods actually received in response to 
 the orders that have been sent out to private contractors 
 from whom the goods are bought. When goods enter the 
 Government Printing Office they are examined, and a so- 
 called ''receiving ticket" is made out and certified by the 
 storekeeper and by a board of inspection. These tickets 
 constitute the source from which the receiving side of the 
 order book is posted, just as the purchase orders furnish 
 the raw material from which the purchase side or order 
 is made up. It frequently happens that a given consign- 
 ment contains more or less than the precise amount that 
 has been ordered. In that event the amount actually re- 
 ceived is recorded, and in a subordinate book provision 
 js made for a separate account with "overs" and "unders" 
 
CHANGES IN GOVERNMENT ACCOUNTING 329 
 
 Jacket made up by 
 
 Date 
 
 Index 
 
 L'ept. Ordering 
 
 . Osrrections by _ 
 
 COVCRNMENT PRIHTIHC OFFICE 
 
 JACKET INFORMATION SUP 
 
 Jacket No. 
 Req. No. 
 
 PREVIOUS JACKET NOS. 
 
 Authority 
 
 No. Authorized 
 
 QUANTITY 
 
 Form No. 
 
 BINDING MEMO. 
 
 Proof. 
 
 Deliver Proof to_ 
 
 COMPOSITION _. 
 
 Type Measure 
 Rule 
 
 Run from Type 
 
 Keep Standing . 
 
 Electrotypes 
 
 Stereotypes 
 
 Illustrations 
 Maps 
 
 Div. Req. No. 
 
 Half-tones Text Figs. _ 
 
 BINDERY OPERATIONS 
 
 PRESSWORK 
 
 pDITION 
 No. 
 Size - 
 
 Ueav 
 J Page 
 
 No. Sigs. 
 
 Ink 
 
 No. of Pages . 
 Sig. Mark __ 
 Numbering _ 
 Cover 
 
 No. of Forms . 
 
 Folding 
 
 Gumming or Tipping . 
 
 Gathering 
 
 Sewed 
 
 Interleaving 
 
 Pasting 
 
 Collating 
 
 Cased 
 
 Style of Bmding , 
 
 Perforating . 
 
 Canvas Covers . 
 
 REAMS SHEETS 
 
 COLOR KIND OF PAPER SIZE WT 
 
 Lettered on Side 
 
 Lettered on Back 
 
 Gold, Aluminum, or Ink 
 
 Head Band Guards Lining Paper _ 
 
 Stamping Edging Waste Papers. 
 
 Paging — 
 
 Ruling 
 
 Punching 
 Tablets _ 
 Pads 
 
 Indexing 
 
 Numbering . 
 Perforating . 
 Eyeleting _ 
 Tagging 
 
 Size 
 
 Cutting 
 
 Wrapped- 
 Deliver to , 
 
 Composing and Proof Reading Section . 
 
 Counting 
 
 Work will be per- F°""dry 
 formed on this p^^j Room . 
 Jacket in- 
 
 I Folding Room . 
 
 , Bindery . 
 
 Figure 2 
 
330 
 
 HENRY PARKER WILLIS 
 
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CHANGES IN GOVERNMENT ACCOUNTING 331 
 
 in order that it may be possible at all times to know the 
 precise relation between gross orders and gross receipts 
 and their value. By posting the separate accounts in this 
 way and carrying down the totals, it is possible at any 
 moment to ascertain the obligations of the office accurately. 
 In paying for goods ordered, vouchers are made up after 
 each order record has been audited and completed. This 
 voucher is then sent to the private contractor and is certi- 
 fied by him, after which it is returned to Washington, 
 where it is signed, and a check is made out and sent to 
 the public printer for his signature.- A voucher register 
 is kept, and in this all such vouchers are recorded. From 
 it direct postings are made to the purchasing ledger. What 
 amounts to a cash book is kept as a so-called *' disburse- 
 ment book." After the checks are drawn in payment for 
 supplies they are duly entered in this book. The same 
 is done with the results of pay-rolls, and the postings are 
 then made to the ^Hreasury ledger" under the respective 
 appropriation headings which have been followed by Con- 
 gress in assigning money for the Government Printing 
 Office, as for example, * Sprinting and binding, 1908." This 
 assigns the disbursements of a given period to the appro- 
 priation upon which they constitute a draft. In account- 
 ing with employes, pay-rolls are made up in the following 
 manner: A daily time slip is turned in from each of the 
 *' sections" and ^'branch offices" into which the different 
 divisions of the printing office are sub-classified. The total 
 number of such sections or branch offices is about fifty. 
 In each case the time slip is certified by the man in charge 
 of the section in which it originates. When these slips 
 have been received by the accounting division they are 
 transferred to a time roll, upon which are shown the 
 amounts due to each employe over a period of two weeks 
 for work done and for annual leave which he has chosen 
 to take during that period. At the end of two weeks, the 
 suitable amount, based upon the employe's time is paid 
 
332 HENRY PARKER WILLIS 
 
 to him in enrrency, and lie personally signs the pay-roll 
 Indicating that he has received the amount. The only 
 distinction recognized in grouping the payments on pay- 
 roll account is that between * Sprinting and binding" and 
 ''annual leave," actual work being paid for out of the first, 
 and "time off," up to the amount annually allowed, out 
 of the latter. At the end of each month both pay-rolls and 
 vouchers are sent to the Treasury, and are there audited 
 and filed. 
 
 In keeping account with property the main reliance is 
 placed upon a system of card records, on which are shown 
 the amounts of each class of supplies received by the office 
 and by it issued upon suitable requisition to the several 
 divisions or sections. Orders for supplies are sent out 
 as a result of a " Stores Alarm Slip. ' ' This so-called ' ' slip ' ' 
 is herewith reproduced, (Figures 1 and la). It may origi- 
 nate anywhere in the printing office, but must be approved 
 or disapproved by the immediate superior of the employe 
 in charge of any division or section in which it starts. 
 Whenever the stock of an article on hand has been reduced 
 to the maximum point representing the amount that will 
 be required until a new supply can be obtained, or when- 
 ever a new article is wanted, the alarm slip is to be started. 
 This slip after being duly approved exhibits the descrip- 
 tion of the article, the quantity wanted, the quantity on 
 hand, and a number of other items of information. It also 
 provides for specifications which are to be written in, and 
 gives instructions as to the way in which purchases are 
 to be made. Wlien the supplies have been received and 
 duly approved by the officials who make up the ticket, the 
 amount of the supplies thus in hand is recorded on the 
 cards to which reference has already been made. Simi- 
 larly, when stores are issued, the amount issued from each 
 consignment of goods is recorded upon the back of the card 
 relating to that consignment at the price per imit which 
 was paid when the goods were purchased. In this way a 
 
CHANGES IN GOVERNMENT ACCOUNTING 333 
 
 continuoiTS inventory is kept, showing the quantities of 
 each class of supplies on hand, and this is checked from 
 time to time from an actual inventory taken in the stores 
 division. 
 
 The office carries a combined record of supplies issued 
 in a so-called ^' issue book." Entries in this book are made 
 from slips which constitute orders upon the storekeeper 
 for supplies. By posting the issue book from the slips in 
 question it can be seen exactly what stores have been called 
 for and have been furnished after approval of the requi- 
 sition to each division. This gives a compiled comparative 
 statement of the amount of stores issued to each section 
 of the office, classified under headings showing how they 
 have entered into product maintenance, etc. 
 
 The subject of cost accounting in the Government Print- 
 ing Office can best be approached by considering the way 
 in which goods are ordered by the several executive de- 
 partments, and estimates made in response. Supposing 
 that a given bureau or department has a specified piece 
 of work which it is desired to have done, it may fill out 
 a blank requesting information from the printing office 
 with reference to the cost. At the office a so-called "esti- 
 mate for printing and binding" is then made up, which is 
 practically a bid on the work. This slip affords detailed 
 data concerning the cost of paper used, the amount needed, 
 the cost of the various bindery operations, the cost of com- 
 position and press work, and so forth. These items of 
 information are supplied by the experts of the office 
 through consideration of the job in comparison with the 
 fixed scale of charges of the office which has been prepared 
 for the guidance of the experts in just such cases. Sup- 
 posing that the estimate is satisfactory to the department 
 which ordered the estimate made, the printing office is 
 directed to proceed, and the appropriate instructions are 
 given.* In the course of the operation a so-called "jacket 
 information slip" is worked out. This jacket information 
 
334 
 
 HENRY PARKER WILLIS 
 
 form Ko. B sa^ 
 
 ABSTRACT OF STORES ALARM SLIP. 
 
 Division Alarm No.. 
 Date . 
 
 Quantity and article 
 
 -. 190_ 
 
 THE TIME DECEIVED SH.\Ll, BE STAMPED IN' EACH DIVISIO:<. 
 
 NO. 
 
 Government Printing Office 
 
 STORES ALARM SLIP. 
 
 THE BASIS FOU MAKINCi ALL PUItCIlASIi.s EXCEPT ILLU.STRATION'.'i. 
 
 This Alarm Slip must not be destroyed or pigejn-holed. a.id when once itarted must reach its destination. READ INSTRUCTIONS ON OTHER SIDE. 
 
 This Alarm Slip may be started by any omclal or employee In charge or any division or section, but must lie approved or 
 disapproved by his Immediate superior; and before being forwarded must receive the approval or dwappro^'r>l of ilie foreman of 
 the division which pertains. 
 
 Wlienever the stock on hand of an article has been reduced to the mavlraum point to last until a new supply c.in be obt.ilncdt 
 or If a new article Is wanted, this Alarm Slip Is to be started. When Issuing supplies the Storekeeper should remind I lie IToperty 
 Clerk by memorandum that supply Is down to ordering point, or v^ice versa. 
 
 II In the opinion of the Purchasing Agent the article called for on this Alarm .Slip can In any way be clinn£;ed lo iltc ndvan* 
 tage of the service, he shall at once bring the matter to the attention of the Public Printer by memorandum uiiaciird hereto. 
 
 THIS SLIP ORIGINATED AS 
 
 DIV. ALARM No 
 
 Date _. 
 
 190_ 
 
 CONTRACT 
 ITEM NO. 
 
 OUANTITV UNIT 
 
 DESCRIPTION or ARTICLE 
 
 
 
 
 
 -1 
 
 
 
 
 
 
 
 1 CERTIFT THAT th: ABOVE ARTICLE IS URGENTLY NEEDED. AND IS TO BE USED AS FOLLOWS: 
 
 TIN r«niwiu b f 
 
 ^S-Nk-fr-.w^-u..- Il.b„l..„i- l.„,.b. ...[,„.,...„ ,,..,™.l..r|.i-"~— il...i....l.l..~..nl.l.., ......»«. ".~ 
 
 .„„„ 
 
 
 
 U..rlli.^fto lunr fca^i of lbl> vln#t f-r ll.>l furi-o... 11 ....«, ,,.,.• u ^ryfti, u .a-Lltimjl .hwl. «m. (lif, oiaj U allirhtd U. iblj lllp 
 
 <f>— Ml I* F iifii t y Cmh.l 
 
 Rt COMMENDATION-. 
 
 (r«w«f4 1* Dvpoly Publk PHvUt.i 
 
 
 RECOMMENDATION. 
 
 V « mt #rm »a, fomard U, Public Prislct.f 
 
 dats alarm slip received 
 date of purchase order_ 
 Ordered from 
 
 Purchase Order no. 
 Date of oeliveri__ 
 
 At I 
 
 (^ ' *• Pnrch»«e Order coverlnir this Alarm Slip Is drawn, forward the orlslBal to t>»e contractor and one copy to 1 
 Caldanceand iDformntlon. one ropy to Slorekecper, oDc copy to Che AecoonttaK Dlrl>laB.a«l ««» COM to Tropcrty Hecords 
 copy In the Parchaslog PlvUtoD. 
 
 row No. BM, 
 
 Figure •) 
 
CHANGES IN GOVERNMENT ACCOUNTING 335 
 
 >.: 
 
 INSTRUCTIONS. 
 
 »C ilil-i Ainim Siiii orlcliiaiPS In -he omcc of ihe Secretary. Congressional Clerk, Cashier or Paymaster, Attorney, Purchasing 
 A"rni. Accouiuonl. or ilic Deputy Public Printer, foruurd direct lo the Public Printer.' 
 
 "if ihls Alarm slip orlKln.Ties In tlic Work Division, wlilcli Includes the oolccor the Superintendent of Work, or the Documents 
 Division, wlilcli liiciudis ilie onicc or the Superlniciideni of Documents, It will receive the approval or disapproval or the Super* 
 IntcriiU-nt of Worit or the supcrlnlcMdenl of Documenls berorc leaving their divisions. 
 
 It is led to the discretion of any oincinl at any time to ask ror the data or certiacatlon called for rrom the Property Clerk 
 and siocU Keeper. . 
 
 ON CONTHACT ITEMS,* when this Alarm Slip Is approved, the Purchasing Agent will proceed with purchase, provided such 
 action will not cause the maximum amount or stock carried to be exceeded by more than 10 per cent, or the purchase is mado 
 for a siioclal Job of printing or binding, otherwise the Purchasing' Agent "III forward tlio Alarm Slip to the Public Printer for 
 approval before (lie purchase order Is drawn. 
 
 ON orEN-MAItKliT PUIICII ASES." and exclusive of emergency requlrcmeni s. all quotations received on account of this Alarm 
 .Slip must be opened at a specined hour in llio presence of a commlllce designated tor that purpose, when they are examined, 
 not.Tied, and submitted to the Purchasing Agent, who makes a recommendation of award, and, when approved by the Public 
 Printer, a purchase order Is placed by the Purchasing Agenu 
 
 ON EMEHCENCY PUItCllASES,' lo be made In the open markii, the Purcliasing Agent shall proceed with the least possible 
 delay to purchase, in accordance with the provisions of la", such tiuantlty or the article called for In this Alarm Slip as may. 
 in his Judgment, be necessary for the best Interests of tlie Governmen l and to relieve the emergency: and, should the price or 
 ilic article exceed oiou, It shall be approved by the Public Printer bt fore the purchase Is made. 
 
 olllx ruMI^ Ihii 
 
 1 f„i Lii... uroi» t.i 
 
 «H.ioial. 
 
 . by tlie {xrvori 
 
 Pvo.x O.DI. No 
 
 Cosr F O B G P O.. $. 
 
 F O B G P O., $. 
 
 SPECIFICATIONS. 
 
 Figure ia 
 
336 HENRY PARKER WILLIS 
 
 slip carries elaborate data regarding the methods, and de- 
 tailed manufacturing operations, which must be performed 
 in carrying through the job. On the back of the informa- 
 tion slip is given a detailed analysis of the charges for the 
 job, and also a ''summary of labor charges," in which all 
 outlays for labor are grouped as ''composition and proof- 
 reading," "foundrv^" "presswork," "folding," "binding," 
 and "miscellaneous." The various items of information 
 are filled in from data which are furnished by the several 
 sections of the office in a way presently to be indicated. 
 It is to be noted that in every case the data thus supplied 
 are in units of work performed while the costs recorded 
 on the jacket information slip are in amounts which have 
 been computed by figuring the cost of the different opera- 
 tions on the basis of the uniform scale already referred 
 to, as applied to the quantity of work done on the job as 
 reported. From this jacket information slip, when fully 
 made up, a revised estimate of total cost is prepared. In 
 a so-called "allotment book" a record is kept of the differ- 
 ent jobs perfonned for the various bureaus and depart- 
 ments, information being given both of the original esti- 
 mate, and of the final sum charged and applied against 
 the appropriation allotted by Congress. 
 
 The nature of the jacket information slip can be easily 
 understood from the reproduction herewith, (Figures 2 
 and 2a). 
 
 In order to get the information necessary in making 
 up the jacket information slip, a system of reports on work 
 has been devised by the public printer. These reports 
 originate in the several divisions to which they pertain, 
 as for example, foundry, folding room, composition and 
 proofreading division, jaressroom, cutting and packing divi- 
 sion, bindery division, and building division. In each in- 
 stance the fundamental forms are two in number, a ' ' daily 
 report of work" giving the name of the operator and the 
 time spent on specified operations.' On this slip each of 
 
CHANGES IN GOVERNMENT ACCOUNTING 337 
 
 FOUNDRY, 
 DAILY REPORT OF WORK. 
 
 certify on my official oath that the time noted on this 
 report is correct. 
 
 Date, , 190.. 
 
 Name, No... 
 
 (Correct Jacket number and accurate time must be given.) 
 
 
 
 
 Operation No. 
 
 Jacket No. 
 
 
 Time. 
 
 Also quantity when 
 so ordered. 
 
 
 
 A.M. 
 
 
 
 
 
 8.00 
 
 
 
 2 
 
 8.12 
 
 
 
 4 
 
 8.24 
 
 
 
 6 
 
 8.36 
 
 
 
 8 
 
 8.48 
 
 
 
 10 
 
 9.00 
 
 
 
 12 
 
 9.12 
 
 
 
 14 
 
 9.24 
 
 
 
 16 
 
 9.36 
 
 
 
 18 
 
 9.48 
 
 
 
 20 
 
 10.00 
 
 
 
 22 
 
 10.12 
 
 
 
 24 
 
 10.24 
 
 
 
 26 
 
 10.36 
 
 
 
 28 
 
 10.48 
 
 . 
 
 
 30 
 
 11.00 
 
 
 
 32 
 
 11.12 
 
 
 
 34 
 
 11.24 
 
 
 
 36 
 
 11.36 
 
 
 
 38 
 
 11.48 
 
 
 
 40 
 
 12.00 
 
 
 
 42 
 
 12.12 
 
 
 
 44 
 
 12.24 
 
 
 
 45 
 
 12.30 
 P.M. 
 
 
 
 Ch 
 
 eck hourly rate h 
 
 ere. 
 
 Total. 
 
 Wage 
 
 
 
 1 
 
 
 
 per hr. 
 
 .15 
 
 .25 .30 .3 
 
 1 
 
 5 .40.45 .50 .55 .6^ 
 
 ) .65 .70 .80 
 
 $ , 
 
 
 1 1 1 
 
 
 (Foreman's O. K.) 
 Figure 3A 
 
 B— vni— 23 
 
838 
 
 HENRY PARKER WILLIS 
 
 
 
 
 Operation No. 
 
 Jacket No. 
 
 
 Time. 
 
 Also quantity when 
 so ordered. 
 
 
 
 P.M. 
 
 
 
 45 
 
 12.30 
 
 
 
 46 
 
 12.36 
 
 
 
 48 
 
 12.48 
 
 
 
 50 
 
 1.00 
 
 
 
 52 
 
 1.12 
 
 
 
 54 
 
 1.24 
 
 
 
 56 
 
 1.36 
 
 
 
 58 
 
 1.48 
 
 
 
 60 
 
 2.00 
 
 
 
 62 
 
 2.12 
 
 
 
 64 
 
 2.24 
 
 
 
 66 
 
 2.36 
 
 
 
 68 
 
 2.48 
 
 
 
 70 
 
 3.00 
 
 
 
 72 
 
 3.12 
 
 
 
 74 
 
 3.24 
 
 
 
 76 
 
 3.36 
 
 
 
 78 
 
 3.48 
 
 
 
 80 
 
 4.00 
 
 
 
 82 
 
 4.12 
 
 
 
 84 
 
 4.24 
 
 
 
 85 
 
 4.30 
 
 
 
 86 
 
 4.36 
 
 
 
 88 
 
 4.48 
 
 
 
 90 
 
 5.00 
 
 P.M. 
 
 
 
 01 
 
 'ERATIC 
 
 )NS. 
 
 34. Electrotype molding. 
 
 35. Battery work. 
 
 36. Backing up. 
 
 37. Straightening. 
 
 38. Operating finishing ma- 
 
 chine. 
 
 39. Revising. 
 
 40. Correcting. 
 
 41. Repairing press plates. 
 
 42. Joining rules. 
 
 43. Solid body work. 
 
 44. Making accents. 
 
 45. Stereotype molding. 
 
 46. Stereotype casting. 
 
 47. Making slugs, leads, and 
 
 furniture. 
 
 48. Casting ingots. 
 
 49. Any operation not on 
 
 list — to be written in, 
 
 50. Clerical, helper, messen- 
 
 ger, or laborer work. 
 
 51. Waiting time (not al- 
 
 lowed unless employe 
 first reports this fact 
 to chief). 
 53. Indeterminable. 
 
 Figure 3A (continued) 
 
CHANGES IN GOVERNMENT ACCOUNTING 339 
 
 4-1 
 
 o 
 
 
 60- : : : : : 
 
 1- •-• 
 
 4«- i • " • * 
 
 --1 <n 
 
 I ' ! ' ! ' 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 in 
 
 
 
 
 
 
 
 
 
 
 
 o 
 
 l-H 
 
 
 
 < 
 
 
 
 
 
 
 o 
 
 
 :::::: 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 (J 
 
 Q 
 
 
 i< 
 
 S 
 
 :::::: 
 
 Figure 3 A. 
 
 O 
 
 W 
 
 3 
 (30 
 
 w 
 u 
 
 l-H 
 
 o 
 o 
 
 l-H 
 
 Ph 
 H 
 W 
 
 W 
 > 
 
 o 
 
 o 
 
 c 
 
 .S 
 
 
 
 
 
 
 
 
 o 
 
 in 
 
 
 
 
 
 
 
 
 C 
 O 
 
 
 
 
 
 
 
 
 _o 
 
 O 
 
 O, 
 
 E 
 o 
 U 
 
 
 
 
 
 
 
 
 in 
 
 ^ s 
 
 . o 
 
 1" 
 
 
 
 
 
 Total of salaries and wages 
 and materials and supplies. 
 Profit (+) or loss (—).... 
 
 U-1 . 
 
 O J3 
 ■»-> 
 
 \ 
 
 
 
 c 
 
 Eh 
 
340 HENRY PARKER WILLIS 
 
 the principal operations is assigned a given number, as 
 for instance, "79. Folding." In the main body of the slip 
 appears a blank for the number of the ''jacket" to which 
 the operation belongs, and a series of numbers dividing 
 the day into periods of six minutes each. A blank is left 
 for the recording of the number of the operation. On a 
 completed slip, therefore, appear data as to the name of 
 the operator, the approximate time at which he has begun 
 and discontinued a given operation (which is specified by 
 number), and the rate of wages per hour. The second 
 fundamental blank is intended to assemble the results of 
 the daily report of work, and is entitled "abstract of labor 
 charges." This is prepared by the officer in general charge 
 of the work, and gives the totals which have been arrived 
 at by the individual employes themselves as recorded on 
 their daily report of work. Inasmuch as the work has 
 already been classified by principal operations, it is easy 
 to group the total cost of each operation as derived from 
 the several individual daily time slips in the abstract of 
 labor charges. The slips, however, are used only in cases 
 where the product cannot be measured in a more econom- 
 ical way by a single individual acting for all. One ab- 
 stract of labor charges is made out for each jacket informa- 
 tion slip, being numbered accordingly. The combined re- 
 sults of the labor charges supply the information for filling 
 up the slip in those divisions of the slip which relate to 
 labor. The portions which relate to paper are filled in 
 from the requisitions which have been made for supplies 
 to be used in preparing the given job. Miscellaneous 
 items are covered from the general uniform scale. The 
 final result of the information slip shows the combination 
 of outlay for labor and outlay for supplies, the latter esti- 
 mated at cost price, the former at the fixed scale of charges 
 for work already referred to. At the end of each month 
 a compiled statement is made up showing the "distribu- 
 tion of labor charges on work completed during month 
 
CHANGES IN GOVERNMENT ACCOUNTING 341 
 
 of " From this comparisons can be made 
 
 with the amount actually charged to the departments, and 
 the uniform scale can from time to time be raised or low- 
 ered as occasion may demand. As illustrating this system 
 for assigning labor costs, specimen forms are herewith re- 
 produced (Figures 3A, 3B, and 3C). 
 
 Cost Analysis at the Mints. 
 
 One of the most clear-cut examples of the use of a sys- 
 tem of cost accounting in the government service is found 
 in the United States mints. The system was introduced 
 as a result of the work of the Committee on Department 
 Methods, which recommended that the methods of book- 
 keeping at the mints be adjusted with a view to detailed 
 analyses of cost. Under the system then introduced a 
 monthly report is returned by each of the mints of the 
 United States to the Director of the Mint at Washington. 
 Each of these reports is an abstract of the books of the 
 mint for the preceding month, and inasmuch as the prod- 
 uct of the establishment is uniform, and costs are readily 
 segregated, the system has easily been made to show the 
 output of coin, the actual cost of each operation in gross, 
 and the distribution of this cost per unit of coinage. Thus 
 the Philadelphia Mint in its report discriminates between 
 the weigh clerk's office, deposit melting room, deposit as- 
 saying department, calculating department, refinery, sweep 
 cellar, assay ^. department, engraving department, ingot 
 melting room, rolling, cutting and annealing department, 
 adjusting and weighing department, upsetting, coining 
 and delivering department, and superintendent's depart- 
 ment. From the data thus furnished the cost per thou- 
 sand pieces of each product is compiled. This then gives 
 the cost per unit. By comparing this with the average 
 cost per thousand pieces as obtained over a series of months 
 and years, the actual running costs can be compared with 
 what experience has shown they should be. 
 
342 HENRY PARKER WILLIS 
 
 This system of accounting involves a careful and elab- 
 orate classification of operations. For example, in the re- 
 finery there is reported first of all the product classified 
 into fine ounces of gold and fine ounces of silver. The 
 costs are then classified as follows: (a) labor, (b) melting 
 and refining in general, (c) leave, (d) crucibles, (e) mitts 
 and gloves, (f) acids, (g) fuel, (h) furnace repairs, (i) me- 
 chanical repairs, (j) incidentals, (k) electrical current, 
 (1) chemicals, (m) sweep cellar, (n) assays, and (o) light 
 and ventilation. The aggregate divided by the number 
 of fine ounces gives the cost per fine ounce, which, by com- 
 parison with former months, shows the relation between 
 these costs and the average cost per fine ounce. In the 
 assay department product is reported as ''number of 
 assays made," which is divided among ''deposits," "in- 
 gots," "refinery," and "miscellaneous." The costs in the 
 assaying department are divided between (a) labor, (b) 
 leave, (c) material, (d) fuel, (e) mechanical repairs, (f)' 
 power, and (g) light and ventilation. These costs are then 
 distributed among the four groups into which the number 
 of assays made is sub-classified. The ingot assays are then 
 distributed to the denominations of coin, as double eagles, 
 half eagles, etc. From this is derived the cost per assay 
 which can then be compared with the average cost per 
 assay as shown by former reports. 
 
 It is thus seen that the sole object of the cost-account- 
 ing system in use at the mints is that of distributing labor 
 charges and material charges to the various classes of coin 
 and other products turned out, for the purpose of making 
 comparisons with an average standard. The system is pro- 
 nounced exceedingly satisfactory, and has afforded a very 
 much better analysis of mint operations than was practi- 
 cable prior to its introduction. A rough general distribu- 
 tion of costs was always practicable owing to the simplic- 
 ity of the manufacturing operations performed while the 
 non-commercial character of the mints made it less neces- 
 
CHANGES IN GOVERNMENT ACCOUNTING 343 
 
 sary from any immediate standpoint to know the relative 
 outlays on each operation. It has been found, however, 
 that the comparative analyses rendered possible by the 
 new system, make strongly for good administration, and 
 render it possible to locate sources of unnecessary or 
 excessive cost.* 
 
 Statistical Costs. 
 
 An excellent example of what can be done in estimating 
 and apportioning the cost of statistical work in the gov- 
 ernment service has recently been afforded by the Census 
 Bureau.f This office, after considerable investigation, has 
 finally developed a complete plan for keeping track of the 
 outlays on pay-roll and for classifying at the end of each 
 month the various objects to which the money expended 
 has been devoted. 
 
 The cost-accounting system of the Census Office is based 
 upon the idea that every outlay made through the pay- 
 roll is for a distinct object, and must be reported in con- 
 nection with that object. Each member of the Census 
 Office staff is assigned a number, and makes out a daily 
 time slip, upon which appear certain facts. The time slip 
 contains blanks for the name of the employe, the number 
 assigned him, the division of the office in which he works, 
 the number of his clerical class (whether 1st, 2d, 3d, etc.), 
 and absences if any. Upon the slip are also given spaces 
 to be filled in with the number of the inquiry upon which 
 the employe is engaged, the character of the work, and 
 the amount of time spent. On the back of the slip appears 
 a classification giving seven main operations representing 
 the work of the office as follows: (1) field work; (2) labor; 
 
 *The foregoing account of the cost system of the mints is based upon 
 information kindly furnished by Hon. Frank A. Leach, ex-Director of the 
 United States Mint, who has supplied the writer with the detailed data of 
 which the text furnishes a brief summary. 
 
 t For detailed data and explanations concerning the cost-keeping system 
 of the Census Bureau I am indebted to Hon. W. S. Rossiter, Chief Clerk of the 
 Census, who has had charge of the introduction of the system. 
 
344 HENRY PARKER WILLIS 
 
 (3) miscellaneous clerical; (4) publishing; (5) statistical; 
 (6) stenography and typewriting; (7) supervisory. Each 
 of these main topics is largely subdivided, there being about 
 forty sub-classifications, into some one of which the labor 
 of each clerk will fall. It does not follow of course that 
 a given clerk spends his whole daily time upon any one 
 subject. Usually he will perform labor which is classi- 
 fiable under two or more of these sub-heads. In that event 
 he must record upon his daily report the amount of time 
 spent on each operation, showing the distribution between 
 the several classes of work. After the slips have been 
 made up as above indicated, they are carefully examined 
 by the time clerk of the division in which they originate, 
 for the purpose of detecting any inconsistencies or mani- 
 fest errors. They are then sent to the cost-accounting sec- 
 tion. It should be noted that in cases where clerks are 
 absent from the office on leave, or are out upon the road 
 engaged in field work, a slip is made out for each by the 
 time keeper of the division to which each belongs, and is 
 sent in with the other slip. When all the slips have been 
 received in the cost-accounting section the clerks in charge 
 of that section punch cards representing the data which 
 are presented upon each slip. This punching process 
 is the same which was followed in the last decennial census 
 and is performed by the use of the so-called Hollerith ma- 
 chine. The cards in question are printed with a series of 
 columns showing the date, the office or field of the worker, 
 the employe, the division in which employed, the grade 
 of the clerk, the inquiry to which attached, the character 
 of the work done, the time employed, the rate per hour 
 paid, and the total amount paid. Under each of these 
 headings the appropriate data are represented by num- 
 bers, and inasmuch as each employe, division, grade, in- 
 quiry, character of work, etc., has a definite number 
 previously assigned to it, it is thus possible to record nu- 
 merically b}^ punch marks in the appropriate squares the 
 
CHANGES IN GOVERNMENT ACCOUNTING 345 
 
 data which has been recorded in words upon the daily 
 time slip. After the cards have been punched they are 
 sorted into groups according to rates of pay, and then ac- 
 cording to time employed. The sorting is simply done 
 by grouping together all cards which have uniform punch 
 marks in the sections referred to (rate of pay and time), 
 needles being thrust through the appropriate holes as the 
 cards stand stacked in order to see that all are punched 
 in the same area. If they are so punched, they belong to 
 the same group, while if others not so punched have been 
 included, the needles will not pass through completely, and 
 it is necessary to withdraw certain cards, which have 
 (erroneously been thrown into this group. 
 
 The work thus done gives a money classification, and 
 practice has shown that the results correspond to within 
 $100 per month with the results shown by the pay-roll, the 
 latter amounting to about $58,000 monthly.* It would be 
 possible to make the system register to a cent by going 
 sufficiently into detail, but this has not been thought neces- 
 sary. The next operation is to sort the cards by fields 
 and classes of work. The processes are simply those of 
 sorting and adding after the manner already indicated, but 
 for the purpose of obtaining different groupings or classi- 
 fications. These groupings and classifications have been 
 designed to show the head of the Census Bureau exactly 
 where the money that has been paid out has gone — that 
 is to say, for what specific objects it has been expended. 
 In order to give these data, tabular forms showing the 
 seven classes already referred to (supervisory, statistical, 
 publishing, field work, stenography and typewriting, mis- 
 cellaneous clerical, and labor mth an eighth ''administra- 
 tive") have been ruled. After the cards have been sepa- 
 rated into groups according to these main classes of work, 
 
 * This figure applies to the expenses of the bureau in "ordinary" years, 
 that is, years when the regular decennial census is not in progress. When 
 the decennial census is going on, the outlay is much larger. 
 
346 , HENRY PARKER WILLIS 
 
 all those belonging in the various sub-elassifieations being 
 of course grouped under the main head to which they be- 
 long, they are totaled by the usual statistical methods, and 
 the results are recorded, under the headings described, as 
 "Table 1," on which are shown the corresponding results 
 for the similar month of the preceding year. "Table lA" 
 has the same headings, but is represented in percentages 
 for the purpose of showing the relationship between the 
 different groups of work. "Table 2" has the same head- 
 ings, but is limited to the "cost of inquiries in progress, 
 by specified classes of work." ** Table 2A" shows under 
 the same headings as before the per cent which the cost 
 of inquiries in progress by specified classes of work forms 
 of the total expenditures. "Table 3" is made out sep- 
 arately for each inquiry which is in progress, and shows 
 under the familiar headings the distribution of costs upon 
 that particular investigation. "Table 4" is limited to 
 "productive labor," which includes all except the "ad- 
 ministrative" and "supervisory" divisions. "Table 4A" 
 gives under the same heads as the last the percentage which 
 the cost of productive labor forms of total expenditures. 
 "Table 5" is limited to "non-productive labor," which, as 
 we have seen, includes the supervisory and administra- 
 tive groupings. In making the distribution of the cost of 
 non-productive labor, however, separate columns are pro- 
 vided for the director's division, chief clerk's division, dis- 
 bursements and appointments division, library, and corre- 
 spondence and mailing. "Table 5A" gives these same 
 data in percentages. "Table 6" is designed to show the 
 cost of annual leave "by specified classes of work. The 
 subdivision is here made on the original seven groups al- 
 ready referred fo, the entries being those which relate t'o» 
 the leave granted the employes m eacK division. "Tabl6 
 6A" gives the same data as "Table 6" in the form of per- 
 centages. "Table 7" gives the same grouping for the cost' 
 of sick leave by specified classes of work, and ** Table 7A" 
 
CHANGES IN GOVERNMENT ACCOUNTING 347 
 
 tlie percentage which cost of sick leave by specified classes 
 of work forms of the total pay-roll distribution. As already 
 stated, these tables are prepared each month, and within 
 three days of the opening of a new month are furnished 
 to the head of the office for study and comparison. 
 
 Effect of Changes. 
 
 The general effect of the changes in accounting method 
 which have been discussed in the foregoing pages has been 
 good. Both these and other innovations have operated to 
 put the service of the Government upon a much more busi- 
 nesslike basis than has heretofore been characteristic, and 
 have been merely the outward manifestation of a spirit 
 of greater attention to detail, and desire to get results 
 in economy and efficiency that has transformed some of 
 the branches of the Government in an almost radical way. 
 No one would suppose for a moment that the public serv- 
 ice is as yet upon a basis of full efficiency, or that it could 
 compare in quickness or economy of results with even 
 moderately successful business houses. But enough has 
 been done to hold out hopes of improvement in the future 
 to those who believe in thorough and conscientious work. 
 The ideals of the public service are not and never will be 
 identical with those which prevail in the commercial world. 
 The standard of payment is not the same, nor is the object 
 of accounting and other forms of organization the same 
 in the government department as it is in the private busi- 
 ness. Reduction of costs of operation, uniformity of ex- 
 penditure and accounting method, and proper safeguards 
 against unusual extravagance or official peculation may 
 reasonably be looked for. These the federal administra- 
 tion is now in a fair way to secure 
 
SECTION D. 
 
 CORPORATION TAX REGULATIONS. 
 
 Regulations relating to the assessment and collection 
 of the special excise tax imposed by Section 38, act of 
 August 5, 1909, on corporations, joint stock companies, 
 associations, and insurance companies. 
 
 Section 38 of the act of August 5, 1909, is as follows: 
 
 Sec. 38. That every corporation, joint stock company or association, or- 
 ganized for profit and having a capital stock represented by shares, and every 
 insurance company, now or hereafter organized under the laws of the United 
 States or of any State or Territory of the United States or under the acts of 
 Congress applicable to Alaska or the District of Columbia, or now or here- 
 after organized under the laws of any foreign country and engaged in busi- 
 ness in any State or Territory of the United States or in Alaska or in the 
 District of Columbia, shall be subject to pay annually a special excise tax 
 with respect to the carrying on or doing business by such corporation, joint 
 stock company or association, or insurance company, equivalent to one per 
 centum upon the entire net income over and above five thousand dcillars re- 
 ceived by it from all sources during such year, exclusive of amounts received 
 by it as dividends upon stock of other corporations, joint stock companies or 
 associations, or insurance companies, subject to the tax hereby imposed; or 
 if organized under the laws of any foreign country, upon the amount of net 
 income over and above five thousand dollars received by it from business 
 transacted and capital invested within the United States and its Territories, 
 Alaska, and the District of Columbia during such year, exclusive of amounts 
 so received by it as dividends upon stock of other corporations, joint stock 
 companies or associations, or insurance companies, subject to the tax hereby 
 imposed: Provided, however, That nothing in this section contained shall apply 
 to labor, agricultural or horticultural organizations, or to fraternal beneficiary 
 societies, orders, or associations operating under the lodge system, and pro- 
 viding for the payment of life, sick, accident, and other benefits to the mem- 
 bers of such societies, orders, or associations, and dependents of such mem- 
 bers, nor to domestic building and loan associations, organized and operated 
 exclusively for the mutual benefit of their members, nor to any corporation 
 or association organized and operated exclusively for religious, charitable, or 
 educational purposes, no part of the net income of which inures to the benefit 
 of any private stockholder or individual. 
 
 Second. Such net income shall be ascertained by deducting from the gross 
 amount of the income of such corporation, joint stock company or association, 
 or insurance company, received within the year from all sources, (first) all the 
 ordinary and necessary expenses actually paid within the year out of income 
 in the maintenance and operation of its business and properties, including all 
 
 348 
 
CORPORATION TAX REGULATIONS 349 
 
 charges such as rentals or franchise payments, required to be made as a 
 condition to the continued use or possession of property; (second) all losses 
 actually sustained within the year and not compensated by insurance or other- 
 wise, including a reasonable allowance for depreciation of property, if any, 
 and in the case of insurance companies the sums other than dividends, paid 
 within the year on policy and annuity contracts and the net addition, if any, 
 required by law to be made within the year to reserve funds; (third) interest 
 actually paid within the year on its bonded or other indebtedness to an amount 
 of such bonded and other indebtedness not exceeding the paid-up capital 
 stock of such corporation, joint stock company or association, or insurance 
 company, outstanding at the close of the year, and in the case of a bank, 
 banking association, or trust company, all interest actually paid by it within 
 the year on deposits; (fourth) all sums paid by it within the year for taxes 
 imposed under the authority of the United States or of any State or Territory 
 thereof, or imposed by the government of any foreign country as a condition 
 to carrying on business therein; (fifth) all amounts received by it within the 
 year as dividends upon stock of other corporations, joint stock companies or 
 associations, or insurance companies, subject to the tax hereby imposed: 
 Provided, That in the case of a corporation, joint stock company or associa- 
 tion, or insurance company, organized under the laws of a foreign country, 
 such net income shall be ascertained by deducting from the gross amount of 
 its income received within the year from business transacted and capital in- 
 vested within the United States and any of its Territories, Alaska, and the 
 District of Columbia, (first) all the ordinary and necessary expenses actually 
 paid within the year out of earnings in the maintenance and operation of its 
 business and property within the United States and its Territories, Alaska, 
 and the District of Columbia, including all charges such as rentals or franchise 
 payments required to be made as a condition to the continued use or posses- 
 sion of property; (second) all losses actually sustained within the year in 
 business conducted by it within the United States or its Territories, Alaska, 
 or the District of Columbia not compensated by insurance or otherwise, in- 
 cluding a reasonable allowance for depreciation of property, if any, and in the 
 case of insurance companies the sums other than dividends, paid within the 
 year on policy and annuity contracts and the net addition, if any, required by 
 law to be made within the year to reserve funds; (third) interest actually paid 
 within the year on its bonded or other indebtedness to an amount of such 
 bonded and other indebtedness, not exceeding the proportion of its paid-up 
 capital stock outstanding at the close of the year which the gross amount of 
 its income for the year from business transacted and capital invested within 
 the United States and any of its Territories, Alaska, and the District of Co- 
 lumbia bears to the gross amount of its income derived from all sources within 
 and without the United States; (fourth) the sums paid by it within the year 
 for taxes imposed under the authority of the United States or of any State or 
 Territory thereof; (fifth) all amounts received by it within the year as divi- 
 dends upon stock of other corporations, joint stock companies or associations, 
 and insurance companies, subject to the tax hereby imposed. In the case of 
 assessment insurance companies the actual deposit of sums with State or 
 Territorial ofhcers, pursuant to law, as additions to guaranty or reserve funds 
 shall be treated as being payments required by law to reserve funds. 
 
 Third. There shall be deducted from the amount of the net income of 
 each of such corporations, joint stock companies or associations, or insurance 
 companies, ascertained as provided in the foregoing paragraphs of this section, 
 the sum of five thousand dollars, and said tax shall be computed upon the 
 remainder of said net income of such corporation, joint stock company or 
 association, or insurance company, for the year ending December thirty-first, 
 nineteen hundred and nine, and for each calendar year thereafter; and on or 
 
350 CORPORATION TAX REGULATIONS 
 
 before the first day of March, nineteen hundred and ten, and the first day of 
 March in each year thereafter, a true and accurate return under oath or 
 affirmation of its president, vice-president, or other principal officer, and its 
 treasurer or assistant treasurer, shall be made by each of the corporations, 
 joint stock companies or associations, and insurance companies, subject to 
 the tax imposed by this section, to the collector of internal revenue for the 
 district in which such corporation, joint stock company or association, or 
 insurance company has its principal place of business, or, in the case of a 
 corporation, joint stock company or association, or insurance company, or- 
 ganized under the laws of a foreign country, in the place where its principal 
 business is carried on within the United States, in such form as the Com- 
 missioner of Internal Revenue, with the approval of the Secretary of the 
 Treasury, shall prescribe, setting forth (first) the total amount of the paid-up 
 capital stock of such corporation, joint stock company or association, or in- 
 surance company, outstanding at the close of the year; (second) the total 
 amount of the bonded and other indebtedness of such corporation, joint stock 
 company or association, or insurance company at the close of the year; 
 (third) the gross amount of the income of such corporation, joint stock 
 company or association, or insurance company, received during such year 
 from all sources, and if organized under the laws of a foreign country the 
 gross amount of its income received within the year from business transacted 
 and capital invested within the United States and any of its Territories, 
 Alaska, and the District of Columbia; also the amount received by such cor- 
 poration, joint stock company or association, or insurance company, within 
 the year by way of dividends upon stock of other corporations, joint stock 
 companies or associations, or insurance companies, subject to the tax imposed 
 by this section; (fourth) the total amount of all the ordinary and necessary 
 expenses actually paid out of earnings in the maintenance and operation of 
 the business and properties of such corporation, joint stock company or as- 
 sociation, or insurance company, within the year, stating separately all 
 charges such as rentals or franchise payments required to be made as a condi- 
 tion to the continued use or possession of property, and if organized under 
 the laws of a foreign country the amount so paid in the maintenance and 
 operation of its business within the United States and its Territories, Alaska, 
 and the District of Columbia; (fifth) the total amount of all losses actually 
 sustained during the year and not compensated by insurance or otherwise, 
 stating separately any amounts allowed for depreciation of property, and in 
 the case of insurance companies the sums other than dividends, paid within 
 the year on policy and annuity contracts and the net addition, if any, required 
 by law to be made within the year to reserve funds; and in the case of a 
 corporation, joint stock company or association, or insurance company, or- 
 ganized under the laws of a foreign country, all losses actually sustained by 
 it during the year in business conducted by it within the United States or its 
 Territories, Alaska, and the District of Columbia, not compensated by in- 
 surance or otherwise, stating separately any amounts allowed for deprecia- 
 tion of property, and in the case of insurance companies the sums other than 
 dividends, paid within the year on policy and annuity contracts and the net 
 addition, if any, required by law to be made within the year to reserve fund; 
 (sixth) the amount of interest actually paid within the year on its bonded or 
 other indebtedness to an amount of such bonded and other indebtedness not 
 exceeding the paid-up capital stock of such corporation, joint stock company 
 or association, or insurance company, outstanding at the close of the year, 
 and in the case of a bank, banking association, or trust company, stating 
 separately all interest paid by it within the year on deposits; or in case of a 
 corporation, joint stock company or association, or insurance company, or- 
 ganized under the laws of a foreign country, interest so paid on its bonded 
 
CORPORATION TAX REGULATIONS 351 
 
 or other indebtedness to an amount of such bonded and other indebtedness 
 not exceeding the proportion of its paid-up capital stock outstanding at the 
 close of the year, which the gross amount of its income for the year from 
 business transacted and capital invested within the United States and any of 
 its Territories, Alaska, and the District of Columbia, bears to the gross 
 amount of its income derived from all sources within and without the United 
 States; (seventh) the amount paid by it within the year for taxes imposed 
 under the authority of the United States or any State or Territory thereof, and 
 separately the amount so paid by it for taxes imposed by the government of 
 any foreign country as a condition to carrying on business therein; (eighth) 
 the net income of such corporation, joint stock company or association, or 
 insurance company, after making the deductions in this section authorized. 
 All such returns shall as received be transmitted forthwith by the collector to 
 the Commissioner of Internal Revenue. 
 
 Fourth. Whenever evidence shall be produced before the Commissioner 
 of Internal Revenue which in the opinion of the_ (Commissioner justifies the 
 belief that the return made by any corporation, joint stock company or as- 
 sociation, or insurance company, is incorrect, or whenever any collector shall 
 report to the Commissioner of Internal Revenue that any corporation, joint 
 stock company or association, or insurance company has failed to make a 
 return as required by law, the Commissioner of Internal Revenue may re- 
 quire from the corporation, joint stock company or association, or insurance 
 company making such return, such further information with reference to its 
 capital, income, losses, and expenditures as he may deem expedient; and the 
 Commissioner of Internal Revenue, for the purpose of ascertaining the cor- 
 rectness of such return or for the purpose of making a return where none 
 has been made, is hereby authorized, by any regularly appointed revenue agent 
 specially designated by him for that purpose, to examine any books and 
 papers bearing upon the matters required to be included in the return of 
 such corporation, joint stock company or association, or insurance company, 
 and to require the attendance of any officer or employe of such corporation, 
 joint stock company or association, or insurance company, and to take his 
 testimony with reference to the matter required by law to be included in such 
 return, with power to administer oaths to such person or persons; and the 
 Commissioner of Internal Revenue may also invoke the aid of any court of 
 the United States having jurisdiction to require the attendance of such offi- 
 cers or employes and the production of such books and papers. Upon the 
 information so acquired the Commissioner of Internal Revenue may amend 
 any return or make a return where none has been made. All proceedings taken 
 by the Commissioner of Internal Revenue under the provisions of this section 
 shall be subject to the approval of the Secretary of the Treasury. 
 
 t Fifth. AH returns shall be retained by the Commissioner of Internal 
 Revenue, who shall make assessments thereon; and in case of any return 
 made with false or fraudulent intent, he shall add one hundred per centum 
 of such tax, and in case of a refusal or neglect to make a return or to verify 
 the same as aforesaid he shall add fifty per centum of such tax. In case of 
 neglect occasioned by the sickness or absence of an officer of such corpora- 
 tion, joint stock company or association, or insurance company, required to 
 make said return, or for other sufficient reason, the collector may allow such 
 further time for making and delivering such return as he may deem necessary, 
 not exceeding thirty days. The amount so added to the tax shall be collected 
 at the same time and in the same manner as the tax originally assessed, 
 unless the refusal, neglect, or falsity is discovered after the date for payment 
 of said taxes, in which case the amount so added shall be paid by the de- 
 linquent corporation, joint stock company or association, or insurance com- 
 pany, immediately upon notice given by the collector. All assessments shall 
 be made and the several corporations, joint stock companies or associations, 
 
352 CORPORATION TAX REGULATIONS 
 
 or insurance companies, shall be notified of the amount for which they are 
 respectively liable on or before the first day of June of each successive year, 
 and said assessments shall be paid on or before the thirtieth day of June, 
 except in cases of refusal or neglect to make such return, and in cases of 
 false or fraudulent returns, in which cases the Commissioner of Internal 
 Revenue shall, upon the discovery thereof, at any time within three years after 
 said return is due, make a return upon information obtained as above pro- 
 vided for, and the assessment made by the Commissioner of Internal Revenue 
 thereon shall be paid by such corporation, joint stock company or association, 
 or insurance company immediately upon notification of the amount of such 
 assessment; and to any sum or sums due and unpaid after the thirtieth day of 
 June in any year, and for ten days after notice and demand thereof by the 
 collector, there shall be added the sum of five per centum on the amount of 
 tax unpaid and interest at the rate of one per centum per month upon said 
 tax from the time the same becomes due. 
 
 Sixth. When the assessment shall be made, as provided in this section, 
 the returns, together with any corrections thereof which may have been made 
 by the commissioner, shall be filed in the office of the Commissioner of 
 Internal Revenue and shall constitute public records and be open to inspec- 
 tion as such. 
 
 Seventh. It shall be unlawful for any collector, deputy collector, agent, 
 clerk, or other officer or employe of the United States to divulge or make 
 known in any manner whatever not provided by law to any person any in- 
 formation obtained by him in the discharge of his official duty ,or to divulge 
 or make known in any manner not provided by law any document received, 
 evidence taken, or report made under this section except upon the special 
 direction of the President; and any offense against the foregoing provision 
 shall be a misdemeanor and be punished by a fine not exceeding one thousand 
 dollars, or by imprisonment not exceeding one year, or both, at the discretion 
 of the court. 
 
 Eighth. If any of the corporations, joint stock companies or associations, 
 or insurance companies aforesaid, shall refuse or neglect to make a return at 
 the time or times hereinbefore specified in each year, or shall render a false 
 or fraudulent return, such corporation, joint stock company or association, or 
 insurance company, shall be liable to a penalty of not less than one thousand 
 dollars and not exceeding ten thousand dollars. 
 
 Any person authorized by law to make, render, sign, or verify any return 
 who makes any false or fraudulent return, or statement, with intent to defeat 
 or evade the assessment required by this section to be made, shall be guilty 
 of a misdemeanor, and shall be fined not exceeding one thousand dollars or be 
 imprisoned not exceeding one year, or both, at the discretion of the court, with 
 the costs of prosecution. 
 
 All laws relating to the collection, remission, and refund of internal- 
 revenue taxes, so far as applicable to and not inconsistent with the provisions 
 of this section, are hereby extended and made applicable to the tax imposed by 
 this section. 
 
 Jurisdiction is hereby conferred upon the circuit and district courts of the 
 United States for the district within which any person summoned under this 
 section to appear to testify or to produce books, as aforesaid, shall reside, to 
 compel such attendance, production of books, and testimony by appropriate 
 process. 
 
 Article I. 
 
 The attention of collectors and others is specially called 
 to the fact that the tax imposed by this section of the law 
 
CORPORATION TAX REGULATIONS 353 
 
 applies to all corporations, joint stock companies, associa- 
 tions, or insurance companies described (except those spe- 
 cifically exempted), without reference to the kind of busi- 
 ness carried on, and that the tax is to be computed upon 
 the net income of such corporations, joint stock companies, 
 associations, and insurance companies, which shall be cal- 
 culated by subtracting from the gross income received 
 from all sources during the year certain deductions spe- 
 cifically set forth in the statute. 
 
 Every corporation, joint stock company, association, 
 or insurance company not specifically enumerated as ex- 
 empt shall make the return required by law, whether it 
 may have net income liable to tax or not. ^ 
 
 In the case of corporations, joint stock companies, as- 
 sociations, or insurance companies organized under the 
 authority of the United States or any State or Territory 
 thereof, including Alaska and District of Columbia, such 
 net income relates not only to the business carried on 
 within the confines of the United States, but to income 
 received from business transacted in any foreign country 
 as well. In case of corporations, joint stock companies, 
 and associations organized under the authority of for- 
 eign countries the terms ''Gross income," "Net income," 
 and "Authorized deductions" relate only to business trans- 
 acted within the United States or any State or Terri- 
 tory thereof. 
 
 Article 2.— Gross income. 
 
 The following definitions and rules are given for de- 
 termining the gross income of the various classes of cor- 
 porations : 
 
 lA. Banks and other Financial Institutions. — Gross in- 
 come consists of the gross revenue derived from the opera- 
 tion and management of the business and property of the 
 corporation making the return, together with all amounts 
 of income (including dividends received on stock of other 
 
 B— VIII— 23 
 
354 CORPORATION TAX REGULATIONS 
 
 corporations, joint stock companies, associations, and in- 
 surance companies subject to this tax) derived from all 
 other sources, as shown by the entries on its books from 
 January 1 to December 31 of the year for which return 
 is made. 
 
 IB. Insurance companies. — Same as lA above. 
 
 2. Transportation companies. — Same as lA above. 
 
 3. Manufacturing companies. — Gross income received 
 during the year from all sources will consist of the total 
 amount, ascertained through an accounting, that shows 
 the difference between the price received for the goods as 
 sold and the cost of such goods as manufactured. The 
 cost of goods manufactured shall be ascertained by an 
 addition of a charge to the account of the cost of goods as 
 manufactured during the year of the sum of the inven- 
 tory at beginning of the year and a credit to the accoimt 
 of the sum of the inventory at the end of the year. To 
 this amount should be added all items of income received 
 during the year from other sources, including dividends 
 received on stock of other corporations, joint stock com- 
 panies, associations, and insurance companies subject to 
 this tax. In the determination of the cost of goods manu- 
 factured and sold as above such cost shall comprehend 
 all charges for maintenance and operation of manufactur- 
 ing plant, but shall not embrace allowances for depreci- 
 ation of property nor for losses sustained which are to be 
 taken account of in ascertaining the net income subject to 
 tax under the proper heading in the authorized deductions. 
 <t 4. Mercantile companies. — Gross amount of income 
 received during the year from all sources consists of the 
 total amount ascertained through inventory, or its equiv- 
 alent, which shows the difference between the price re- 
 ceived for goods sold and the cost of goods purchased dur- 
 ing the year, with an addition of a charge to the account 
 of the sum of the inventory at beginning of the year and 
 a credit to the account of the sum of the inventory at the 
 
CORPORATION TAX REGULATIONS 355 
 
 end of the year. To this amount should be added all items 
 of income received during the year from other sources 
 inclusive of dividends received on stock of other corpor- 
 ations, joint stock companies, associations, and insurance 
 companies subject to this tax. In determining this 
 amount, no account shall be taken of allowances for de- 
 preciation of property, nor for losses sustained which are 
 to be taken account of in ascertaining the net income sub- 
 ject to tax under the proper heading in the authorized 
 deductions. 
 
 5. Miscellaneous. — Gross income consists of the gross 
 revenue derived from the operation and management of 
 the business and property of the corporation making the 
 return, together with all amounts of income (including 
 dividends received on stock of other corporations, joint 
 stock companies, associations, and insurance companies 
 subject to this tax) derived from all other sources as shown 
 by the entries on the books from January 1 to December 31 
 of the year for which return is made. 
 
 It will be noted from these definitions that gross in- 
 come is practically the same as gross profits, the only dif- 
 ference being that gross income is more inclusive, embrac- 
 ing as it does not only gross profits of the corporation, 
 joint stock company, and association itself, but also all 
 amounts of income received from other sources. It is im- 
 material whether any item of gross income is evidenced 
 by cash receipts during the year or in such other manner 
 as to entitle it to proper entry on the books of the corpora- 
 tion from January 1 to December 31 for the year in which 
 return is made. 
 
 Sale of capital assets. — ^In ascei^taining income derived 
 from the sale of capital assets, if the assets were acquired 
 subsequent to January 1, 1909, the difference between the 
 selling price and the bujdng price sKall constitute an item 
 of gross income to be added to or subtracted from gross 
 income according to whether the selling price was greater 
 
356 CORPORATION TAX REGULATIONS 
 
 or less than the buying price. If the capital assets were 
 acquired prior to January 1, 1909, the amount of incre- 
 ment or depreciation representing the difference between 
 the selling and buying price is to be adjusted so as to fair- 
 ly determine the proportion of the loss or gain arising sub- 
 sequent to January 1, 1909, and which proportion shall be 
 deducted from or added to the gross income for the year 
 in which the sale was made. But for the purpose of de- 
 termining the selling price, as provided in this section, 
 there shall be added to the price actually realized on sale 
 any amount which has already been set aside and de- 
 ducted from gross income by way of depreciation as de- 
 fined in article 4 and has not been paid out in making 
 good such depreciation on the property sold. 
 
 Where a corporation is engaged in carrying on more 
 than one class of business, gross income derived from the 
 different classes of business shall be ascertained accord- 
 ing to the definitions above applicable thereto. 
 
 Article 3. — Net income. 
 
 Net income shall be ascertained by deducting from the gross amount of 
 the income of such corporation, joint stock company or association, or 
 insurance company, received within the year from all sources, (first) all the 
 ordinary and necessary expenses actually paid within the year out of income 
 in the maintenance and operation of its business and properties, including all 
 charges such as rentals or franchise payments, required to be made as a 
 condition to the continued use or possession of property; (second) all losses 
 actually sustained within the year and not compensated by insurance or other- 
 wise, including a reasonable allowance for depreciation of property, if any, and 
 in the case of insurance companies the sums other than dividends paid within 
 the year on policy and annuity contracts and the net addition, if any, re- 
 quired by law to be made within the year to reserve funds; (third) interest 
 actually paid within the year on its bonded or other indebtedness to an 
 amount of such bonded and other mdebtedness not exceeding the paid-up 
 capital stock of such corporation, joint stock companv or association, or 
 insurance company, outstanding at the close of *he year, and in the case of a 
 bank, banking association, or trust company, all interest actually paid by it 
 within the year on deposits. [In case of corporations, joint stock companies, 
 and associations organized under the laws of a foreign country, "the propor- 
 tion of its paid-up capital stock outstanding at the close of the year which the 
 gross amount of its income for the year from business transacted and capital 
 invested within the United States and any of its Territories, Alaska, and the 
 Pistjict of Columbia bears to thp f^ross amount of its income derived from 
 
CORPORATION TAX REGULATIONS 357 
 
 all sources within and without the United States"] ;* (fourth) all sums paid 
 by it within the year for taxes imposed under the authority of the United 
 States or of any State or Territory thereof, or imposed by the government of 
 any foreign country as a condition to carrying on business therein; (fifth) all 
 amounts received by it within the year as dividends upon stock of other 
 corporations, joint stock companies or associations, or insurance companies, 
 subject to the tax hereby imposed. 
 
 Section 38 further provides: 
 
 That in the case of a corporation, joint stock company or association, or 
 insurance company, organized under the laws of a foreign country, such net 
 income shall be ascertained (by making like deductions) from the gross 
 amount of its income received within the year from business transacted and 
 its capital invested within the United States and any of its Territories, Alaska, 
 and the District of Columbia. 
 
 Also that: 
 
 In the case of assessment insurance companies the actual deposit of sums 
 with state or territorial officers, pursuant to law, as additions to guaranty 
 or reserve fund, shall be treated as being payments required by law to re- 
 serve fund. 
 
 Also (third paragraph) that: 
 
 There shall be deducted from the amount of the net income of each of 
 such corporations, joint stock companies or associations, or insurance com- 
 panies, ascertained as provided in the foregoing paragraphs of this section, 
 the sum of five thousand dollars. 
 
 The net income, therefore, is the remainder of the gross 
 Income after making the specified deductions. 
 
 Article 4. — ^Deductions. 
 
 The specified deductions actually paid within the year, 
 eet forth in the statute and as described in article 3 pre- 
 ceding, shall include all proper items of expenses and 
 charges under the respective heads as designated. The 
 amount returned for ordinary and necessary expenses 
 actually paid within the year out of income in maintenance 
 and operation of the business and properties of the corpora- 
 tion should not, however, embrace allowances for deprecia- 
 tion of fixed property which are otherwise to be taken 
 account of under the proper heading in the authorized de- 
 ductions, nor expenses paid within the year and charged 
 
 * The matter included in brackets [ ] relates to interest actually paid with- 
 in the year on "bonded or other indebtedness," and should be read in con- 
 nection with the preceding provision (art. 3) relating to such interest paid 
 by corporations, joint stock companies, etc., organized in the United States. 
 
358 CORPORATION TAX REGULATIONS 
 
 to sueli allowances for depreciation credited in the current 
 year or in iDrevious years. In ascertaining expenses proper 
 to be included in the deductions to be made under this 
 article, corporations carrying materials and supplies on 
 hand for use should include in such expenses the charges 
 for materials and supplies only to the amount that the same 
 are actually disbursed and used in operation and main- 
 tenance during the year for which the return is made. 
 
 It is immaterial whether the deductions are evidenced! 
 by actual disbursements in cash, or whether evidenced in 
 such other way as to be properly acknowledged by the 
 corporate officers and so entered on the books as to consti- 
 tute a liability against the assets of the corporation, joint 
 stock company, association, or insurance company making 
 the return. 
 
 Losses. — The deduction for losses must be in respect 
 of losses actually sustained during the year and not com- 
 pensated by insurance or otherwise. It must be based upon 
 the difference between the cost value and salvage value 
 of the property or assets, including in the latter value such 
 amount, if any, as has in the current or pre^dous years 
 been set aside and deducted from gross income by way of 
 depreciation as defined in the following section and not 
 been paid out in making good such depreciation. 
 
 ' Depreciation. — The deduction for depreciation should 
 be the estimated amount of the loss, accrued during the 
 year to which the return relates, in the value of the prop- 
 erty in respect of which such deduction is claimed that 
 arises from exhaustion, wear and tear, or obsolescence out 
 of the uses to which the property is put, and which loss 
 has not been made good by payments for ordinary main- 
 tenance and repairs deducted under the heading of expens- 
 es of maintenance and operation or in the ascertainment 
 of gross income. This estimate should be formed upon 
 the assumed life of the property, its cost value, and its 
 use. Expenses paid in any one ye'ar in making good ex- 
 
CORPORATION TAX REGULATIONS 359 
 
 hanstion, wear and tear, or obsolescence in respect of which 
 any deduction for depreciation is claimed must not be 
 included in the deduction for expense of maintenance and 
 operation of the property or in the ascertainment of gross 
 income, but must be made out of accumulative allowances 
 deducted for depreciation in current and previous years. 
 
 Article 5. — Inventories. 
 
 It will be noted that an inventory or its equivalent of 
 materials, supplies, and merchandise on hand for use 
 or sale at the close of each calendar year is essential in 
 the case of certain corporations in order to determine the 
 gross income, and in case of other corporations to deter- 
 mine their expenses of operation. Wliere such inventory 
 or its equivalent was not taken at the close of the year 1908, 
 a supplemental statement showing such inventory approx- 
 imately must be submitted with the return on the regular 
 form. Such supplemental statement shall be verified under 
 oath by the treasurer or principal financial officer in sub- 
 mitting the same. 
 
 Where any item under any of the deductions is of an 
 unusual nature a special explanatory note referring to such 
 item shall be made and attached to the form at the appro- 
 priate 23lace and made a part thereof by proper reference. 
 
 Paragraph 3 of said section 38 also provides: 
 
 And said tax shall be computed upon the remainder of said net income ®f 
 such corporation, joint stock company or association, or insurance company, 
 for the year ending December thirty-first, nineteen hundred and nine, and 
 for each calendar year thereafter; and on or before the first day of March, 
 nineteen hundred and ten, and the first day of March in each year thereafter, 
 a true and accurate return under oath or affirmation of its president, vice- 
 president, or other principal officer, and its treasurer or assistant treasurer, 
 shall be made by each of the corporations, joint stock companies or as- 
 sociations, and insurance companies, subject- to the tax imposed by this sec- 
 tion, to the collector of internal revenue for the district in which such corpora- 
 tion, joint stock company or association, or insurance company, has its 
 principal place of business, or, in the case of a corporation, joint stock com- 
 pany or association, or insurance company, organized under the laws of a 
 foreign country, in the place where its principal business is carried on within 
 the United States, in such form as the Commissioner of Internal Revenue, 
 with the approval of the Secretary of the Treasury, shall prescribe. 
 
S60 COEPORATION TAX REGULATIONS 
 
 Each return so made is required to set forth: 
 
 (a) The total amount of the paid-up capital stock of 
 such corporations, joint stock companies or associations, 
 or insurance companies, outstanding at the close of the 
 year; 
 
 (b) The total amount of bonded and other indebted- 
 ness of such corporation, joint stock company or associa- 
 tion, or insurance company, at the close of the j^ear; 
 
 (c) The gross amount of the income of such corpora- 
 tion, joint stock company or association, or insurance com- 
 pany, received during the year from all sources, and if 
 organized under the laws of a foreign country, the gross 
 amount of its income received within the year from busi- 
 ness transacted and capital invested within the United 
 States and any of its Territories, Alaska, and the District 
 of Columbia. 
 
 Such returns are also required to set forth the items 
 claimed as deductions (Article 4), also the net income after 
 such deductions have been made. 
 
 Article 6. 
 
 Under the authority conferred by this act forms of re- 
 turn have been prescribed, in which the various items spe- 
 cified in the law are to be stated. 
 
 Blank forms of this return will be mailed to collectors 
 and should be furnished to every corporation, not express- 
 ly excepted, on or before January 1, 1910, and on or be- 
 fore January 1st of each year thereafter. Failure on the 
 part of any corporation, joint stock company, association, 
 or insurance company liable to this tax, to receive a blank 
 form will not excuse it from making the return required 
 by law, or relieve it from any penalties for failure to make 
 the return in the prescribed time. Corporations not sup- 
 plied with the proper forms for making the return should 
 make application therefor to the collector of internal rev- 
 enue in whose district is located its principal place of busi- 
 
CORPORATION TAX REGULATIONS 361 
 
 ness. Each corporation should carefully prepare its return 
 so as to fully and clearly set forth the data therein called 
 for. 
 
 Bookkeeping. — ^No particular system of bookkeeping or 
 accounting will be required by the department. However, 
 the business transacted by corporations, joint stock com- 
 panies, associations, or insurance companies must be so 
 recorded that each and every item therein set forth may 
 be readily verified by an examination of the books and ac- 
 counts, where such examination is deemed necessary. 
 
 Calendar Year. — As the law specifically provides that 
 the tax imposed shall be computed on the net income dur- 
 ing each "calendar year," returns of income based on any 
 period other than the calendar year cannot be accepted. 
 
 Corporations organized during the year or going into 
 liquidation during the year should nevertheless render a 
 sworn return on the prescribed form. 
 
 Article 7. 
 
 Collectors will see that as soon as each return made 
 by any corporation is received a record on Form 632 is 
 made, setting out the name of the corporation making the 
 return, the nature of the principal business transacted, the 
 location of principal place of business, with net income re- 
 ported, and the date on which such return was received. 
 The date of receipt in each case will be noted in the last 
 column of that form, in which column the list on which 
 assessment is made will also be noted. For this purpose 
 the column so used may be subdivided, or the date of re- 
 ceipt of such returns may be noted in red ink over the date 
 entered therein as to such assessment list. 
 
 -* Any collector will, whenever it appears advisable to 
 do so, request that a revenue agent be specially designated 
 to collect and furnish this office with such other data as, 
 in his judgment, is necessary to determine the actual 
 amount of tax to be assessed against any corporation, joint 
 
362 CORPORATION TAX REGULATIONS 
 
 stock company, or association which under the law set forth 
 in these regulations is required to make return. 
 
 Such returns are required to be made not later than 
 March 1 of each year, and any failure to comply with the 
 law in this regard should be at once reported by the col- 
 lector to the Commissioner of Internal Revenue. 
 
 To enable collectors to determine whether all returns 
 due have been received, a careful canvass of each district 
 should be made, and all corporations, joint stock companies, 
 and associations subject to the tax imposed should be 
 listed as above directed. 
 
 Article 8. 
 
 For statistical purposes such corporations, joint stock 
 companies, and associations are classified as follows: 
 
 Class A: Financial and Commercial. — Including banks, 
 banking associations, trust companies, guaranty and surety 
 companies, title insurance companies, building associa- 
 tions (if for profit), and insurance companies, not spe- 
 cifically exempt. 
 
 Class B: Public Service. — Such as railroads, steamboat, 
 ferryboat, and stage-line companies; pipe-line, gas, and 
 electric-light companies; express, transportation, and stor- 
 age companies; telegraph and telephone companies. 
 
 Class C: Industrial and Manufacturing. — Such as min- 
 ing, lumber, and coke companies; rolling mills; foundry 
 and machine shops; sawmills; flour, woolen, cotton, and 
 other mills; manufacturers of cars, automobiles, elevators, 
 agricultural implements, and all articles manufactured 
 wholly or in part from metal, wood, or other material; man- 
 ufacturers or refiners of sugar, molasses, syrups, or other 
 products ; ice and refrigerating companies ; slaughterhouse, 
 tannery, packing, or canning companies, etc. 
 
 Class D: Mercantile. — Including all dealers (not other- 
 wise classed as producers or manufacturers) in coal, lum- 
 ber, grain, produce, and all goods, wares, and merchandise. 
 
CORPORATION TAX REGULATIONS 363 
 
 Class E: Miscellaneous. — Sucli as architects, contractors, 
 hotel, theater, or other companies, or associations, not 
 otherwise classed. 
 
 When classified as above indicated the names of the 
 various corporations, companies, and associations will be 
 listed alphabetically, and will be numbered consecutively 
 (commencing with No. 1 in each class), and in forwarding 
 returns or papers subsequently rendered or submitted by 
 such corporations or companies collectors will see that the 
 same have placed thereon the designating class letter and 
 number corresponding with those noted on the lists herein 
 required to be furnished. 
 
 Article 9. — Examination of Books, etc., by 
 Revenue Agents. 
 
 Paragraph 4 of said section 38 provides: 
 
 Fourth. Whenever evidence shall be produced before the Commissioner 
 of Internal Revenue which in the opinion of the Commissioner justifies the 
 belief that the return made by any corporation, joint stock company ©r as- 
 sociation, or insurance company, is incorrect, or whenever any collector shall 
 report to the Commissioner of Internal Revenue that any corporation, joint 
 stock company or association, or insurance company, has failed to make a 
 return as required by law, the Commissioner of Internal Revenue may require 
 from the corporation, joint stock company or association, or insurance com- 
 pany making such return, such further information with reference to its 
 capital, income, losses, and expenditures as he may deem expedient; and the 
 Commissioner of Internal Revenue, for the purpose of ascertaining the cor- 
 rectness of such return or for the purpose of making a return where none 
 has been made, is hereby authorized, by any regularly appointed revenue 
 agent specially designated by him for that purpose, to examine any books 
 and papers bearing upon the matters required to be included in the return 
 of such corporation, joint stock company or association, or insurance com- 
 pany, and_ to require the attendance of any officer or employe of such cor- 
 poration, joint stock company or association, or insurance company, and to 
 take his testimony with reference to the matter required by law to be in- 
 cluded in such return, with power to administer oaths to such person or 
 persons; and the Commissioner of Internal Revenue may also invoke the 
 aid of any court of the United States having jurisdiction to require the at- 
 tendance of such officers or employes and the production of such books 
 and papers. Upon the information so acquired the Commissioner of Internal 
 Revenue may amend any return or make a return where none has been 
 made. All proceedings taken by the Commissioner of Internal Revenue under 
 the provisions of this section shall be subject to the approval of the Secretary 
 of the Treasury. 
 
364 CORPORATION TAX REGULATIONS 
 
 Article 10. — Assessment and Collection of Tax, etc. 
 
 Paragrapli 5 of said section 38 provides : 
 
 Fifth, All returns shall be retained by the Commissioner of Internal 
 Revenue, who shall make assessments thereon; and in case of any return 
 made with false or fraudulent intent, he shall add one hundred per centum of 
 such tax, and in case of a refusal or neglect to make a return or to verify the 
 same as aforesaid he shall add fifty per centum of such tax. In case of 
 neglect occasioned by the sickness or absence of an officer of such corpora- 
 tion, joint stock company or association, or insurance company, required 
 to make said return, or for other sufficient reason, the collector may allow 
 such further time for making and delivering such return as he may deem 
 necessary, not exceeding thirty days. The amount so added to the tax shall 
 be collected at the same time and in the same manner as the tax originally 
 assessed unless the refusal, neglect, or falsity is discovered after the date for 
 payment of said taxes, in which case the amount so added shall be paid by 
 the delinquent corporation, joint stock company or association, or insurance 
 company immediately upon notice given by the collector. All assessments 
 shall be made and the several corporations, joint stock companies or as- 
 sociations, or insurance companies, shall be notified of the amount for which 
 they are respectively liable on or before the first day of June of each suc- 
 cessive year, and said assessments shall be paid on or before the thirtieth 
 day of June, except in cases of refusal or neglect to make such return, and 
 in cases of false or fraudulent returns, in which cases the Commissioner of 
 Internal Revenue shall, upon the discovery thereof, at any time within three 
 years after said return is due, make a return upon information obtained as 
 above provided for, and the assessment made by the Commissioner of Internal 
 Revenue thereon shall be paid by such corporation, joint stock company or 
 association, or insurance company immediately upon notification of the amount 
 of such assessment; and to any sum or sums due and unpaid after the 
 thirtieth day of June in any year, and for ten days after notice and demand 
 thereof bj'- the collector, there shall be added the sum of five per centum on 
 the amount of tax unpaid and interest at the rate of one per centum per 
 month upon said tax from the time the same becomes due. 
 
 Upon the receipt and verification of the returns ren- 
 dered, the tax as ascertained to be due will be assessed 
 as above prescribed; and notice of such assessment will 
 be given and subsequent demand made (if necessary) on 
 Forms 17 and 21, respectively. 
 
 In case of failure to make returns within the time and 
 manner required by the statute, or where the return ren- 
 dered is found or believed to be incorrect, action in such 
 cases will be taken, as provided in paragraph 4 of the law. 
 
 The additional tax imposed by paragraph 5 of the law 
 for failure to make the required return, or for making a 
 false or fraudulent return, will in all cases be assessed as 
 therein provided. 
 
CORPORATION TAX REGULATIONS 36S 
 
 Article 11. — Returns to Constitute Public Records. 
 
 Paragraph 6 of said section 38 provides: 
 
 Sixth. When the assessment shall be made, as provided in this section, 
 the returns, together with any corrections thereof which may have been 
 made by the commissioner, shall be filed in the office of the Commissioner of 
 Internal Revenue and shall constitute public records and be open to inspection 
 as such. 
 
 Article 12. — Penalties. 
 
 Paragraphs 7 and 8 of section 38 provide: 
 
 Seventh. It shall be unlawful for any collector, deputy collector, agent, 
 clerk, or other ofiicer or employe of the United States to divulge or make 
 known in any manner whatever not provided by law to any person any in- 
 formation obtained by him in the discharge of his official duty, or to divulge 
 or make known in any manner not provided by law any document received, 
 evidence taken, or report made under this section except upon the special 
 direction of the President; and any offense against the foregoing provision 
 shall be a misdemeanor and be punished by a fine not exceeding one thous- 
 and dollars, or by imprisonment not exceeding one year, or both, at the 
 discretion of the court. 
 
 Eighth. If any of the corporations, joint stock companies or associations, 
 or insurance companies, aforesaid, shall refuse or neglect to make a return 
 at the time or times hereinbefore specified in each year, or shall render a 
 false or fraudulent return, such corporation, joint stock company or as- 
 sociation, or insurance company, shall be liable to a penalty of not less than 
 one thousand dollars and not exceeding ten thousand dollars. 
 
 Any person authorized by law to make, render, sign, or verify any return 
 who makes any false or fraudulent return, or statement, with intent to de- 
 feat or evade the assessment required by this section to be made, shall be 
 guilty of a misdemeanor, and shall be fined not exceeding one thousand dol- 
 lars or be imprisoned not exceeding one year, or both, at the discretion of 
 the court, with the costs of prosecution. 
 
 Article 13. — Certain Revenue Laws Made Applicable, and 
 
 Jurisdiction Conferred on United States Courts to 
 
 Compel Attendance of Witnesses, etc. 
 
 Paragraph 8 further provides: 
 
 All laws relating to the collection, remission, and refund of internal- 
 revenue taxes, so far as applicable to and not inconsistent with the provisions 
 of this section, are hereby extended and made applicable to the tax imposed 
 by this section. 
 
 Jurisdiction is hereby conferred upon the circuit and district courts of the 
 United States for the district within which any person summoned under this 
 section to appear to testify or to produce books, as aforesaid, shall reside, to 
 compel such attendance, production of books, and testimony by appropriate 
 process. 
 
 Article 14. — Collection of Tax. 
 
 The tax assessed under the provisions of this act will 
 be collected and will be receipted for on Form 1, as in the 
 
366 CORPORATION TAX REGULATIONS 
 
 case of other assessed taxes. Unless paid within the time 
 fixed by the statute, notice and demand should be at once 
 issued, and, in case of nonpayment, distraint proceedings 
 should be instituted without delay. 
 
THE FEDERAL CORPORATION TAX AND 
 MODERN ACCOUNTING PRACTICE * 
 
 BY A. M. SAKOLSKI. 
 
 It is not "uncommon in these days for legislatures to 
 enact revenue measures in utter disregard of modern 
 accounting principles. Unfortunately accounting terminol- 
 ogy is frequently employed in tax legislation without 
 reference to the proper meaning as applied in business 
 practice. In the tax laws of many of the states, for ex- 
 ample, 'intangible assets" are defined as stocks, bonds, 
 mortgages and other forms of securities, whereas in ac- 
 counting practice the same term represents merely the 
 *' good-will, franchises, patent rights," etc., of a business. 
 The definitions of ''gross earnings," "profits," "income," 
 *' revenue," "capital," etc., are likewise frequently applied 
 in taxation in a sense differing from the meaning ordinarily 
 attached thereto by accountants. Disagreement and con- 
 fusion in the use of accounting terms is common to much 
 of the legislation relating to corporations. Moreover, the 
 decisions of both ths federal and the state courts as to 
 the proper interpretation of accounting terms are exceed- 
 ingly unsatisfactory and in many cases incompatible with 
 business practice. Any attempt to harmonize them into a 
 set of general rules and principles appears a hopeless task. 
 At one time the Supreme Court of the United Statesf 
 decided that "profits" are merely receipts over expendi- 
 tures with no consideration given to depreciation. Other 
 court decisions hold a contrary view, some agreeing to 
 the established accounting principle that net profits are 
 
 * From Yale Review, February, 1910. Reprinted by permission of the 
 editors of the Review and by courtesy of Dr. Sakolski. 
 
 fEyster v. Centennial Board of Finance, 94 U. S., p. 503. 
 
 367 
 
368 A. M. SAKOLSKI 
 
 not finally deteimined until all losses due to waste, depre- 
 ciation and obsolescence of both fixed and circulating assets 
 are made good. 
 
 In view of the confusion existing in the definition and 
 use of accounting terms by legislatures and the law courts, 
 the recently enacted federal corporation tax law might 
 be expected to meet with condemnation and disapproval 
 on the part of business men and accountants. On July 8, 
 1909, just previous to the final passage of the Act, a num- 
 ber of the leading accounting firms addressed a letter to 
 the Attorney-General calling attention to the radical de- 
 fects of the measure, which they characterized as impos- 
 sible of application and utterly out of harmony with 
 modern accounting practice. The important provisions of 
 the law to which objections have been raised are as follows: 
 
 Sec. 38. That every corporation, joint stock company or association, 
 organized for profit and having a capital stock represented by shares, and 
 every insurance company, now or hereafter organized under the laws of the 
 United States or of any State or Territory of the United States or under 
 the acts of Congress applicable to Alaska or the District of Columbia, or 
 now or hereafter organized under the laws of any foreign country and 
 engaged in business in any State or Territory of the United States or in 
 Alaska or in the District of Columbia, shall be subject to pay annually a 
 special excise tax with respect to the carrying on or doing business by such 
 corporation, joint stock company or association, or insurance company, equiv- 
 alent to one per centum upon the entire net income over and above five 
 thousand dollars received by it from all sources during such year, exclusive 
 of amounts received by it as dividends upon stock of other corporations, joint 
 stock companies or associations, or insurance companies, subject to the tax 
 hereby imposed; .... 
 
 . . . Such net income shall be ascertained by deducting from the gross 
 amount of the income of such corporation, joint stock company or associa- 
 tion, or insurance company, received within the year from all sources, (first) 
 all the ordinary and necessary expenses actually paid within the year out of 
 income in the maintenance and operation of its business and properties, in- 
 cluding all charges such as rentals or franchise payments, required to be 
 made as a condition to the continued use or possession of property; (second) 
 all losses actually sustained within the year and not compensated by in- 
 surance or otherwise, including a reasonable allowance for depreciation of 
 property, if any, and in the case of insurance companies the sums other than 
 dividends, paid within the year on policy and annuity contracts and the net 
 addition, if any, required by law to be made within the year to reserve funds; 
 (third) interest actually paid within the year on its bonded or other indebted- 
 ness to an amount of such bonded and other indebtedness not exceeding the 
 paid-up capital stock of such corporation, joint stock company or association, 
 or insurance company, outstanding at the close of the year, and in the case 
 of a bank, banking association or trust company, all interest actually paid by- 
 it within the year on deposits; . . 
 
THE FEDERAL CORPORATION TAX 369> 
 
 Aside from the protest against the requirement that 
 the tax return cover the calendar year, the principal criti- 
 cism of the measure from an accounting view-point is di- 
 rected against the phraseology defining ^ ' net income. ' ' The 
 language of the Act is so crude and the definitions so ab- 
 surd and so contrary to accepted principles of accounting 
 that it has been justly condemned as applicable only to 
 the bookkeeping methods of the Middle Ages. The defects 
 can be ascribed to hasty and careless legislation. Mem- 
 bers of Congress, with but few exceptions, were utterly 
 indifferent to the provisions of the bill, the belief prevail- 
 ing that when handled by the executive and judicial 
 branches of the Government, the measure would reach 
 some final adjustment, or more likely, complete extinguish- 
 ment. The official interpretation of the provisions con- 
 cerns us more than the language of the Act itself. 
 
 In the letter of the accountants addressed to the At- 
 torney-General, the objections to the proposed tax were 
 shown to center about the provision requiring ''net income" 
 to be ascertained by deducting from the gross amount of 
 income received, expenses actually paid, losses actually 
 sustained and interest actually paid. The use of the ex- 
 pressions "actually paid" and "actually sustained" in the 
 calculation of net income naturally created consternation 
 among the accounting profession. Modem accounting, 
 especially as regards the determination of net profits, rests 
 upon the principle that "income" is to be distinguished 
 from "receipts" and "expenses" from "disbursements." 
 Prior to the advent of the corporate form of business 
 organization, bookkeeping was concerned almost exclusive- 
 ly with tracing out the movements of cash. The accounts 
 showed the amounts and the sources of cash received and 
 the manner in which it was disbursed. The main purpose 
 of the early accounting methods was the testing of the 
 honesty of the employes handling cash. The gauging of 
 the proprietors ' profits or the results of individual transac- 
 
 B— VIII— 24 
 
370 A. M. SAKOLSKI 
 
 tions was of secondary importance. In modem times this 
 condition is reversed. Present day accounting aims to ex- 
 hibit in correct and intelligible form the net gain or loss 
 of business operations independent of the movements of 
 cash therein. The tracing of the actual receipts and the 
 actual disbursements of cash, though an important part 
 of every accounting system, has no direct relation to the 
 results of the business operations, and is absolutely no 
 gauge of the net losses or gains incurred in a specific period 
 of time. Profi^ts may be earned, though not actually 
 realized in cash. Items of expense are frequently incurred, 
 though not yet due and not yet paid. These principles 
 are so commonplace and so widely accepted by all ac- 
 quainted with business affairs that an apparent attempt 
 to insert in a tax measure an obsolete method of determin- 
 ing income justly arouses the bitterest opposition. ^ 
 
 But, whatever may have been the motives or intentions 
 in endeavoring to define by legal enactment a method of 
 computing net income in direct violation of prevailing 
 practice, certainly the interpretations of the objectionable 
 provisions of the law by the Secretary of the Treasury 
 demonstrate that effort is made in the application of the 
 tax to comply with actual accounting practice. The situa- 
 tion is interesting in view of the conflicting opinions re- 
 garding the nature of the tax expressed by the Attorney- 
 General and by the executive officials of the Treasury 
 Department. The Attorney-General, in his reply to the 
 accountants, stated that the proposed tax was not on 
 '* profits" but on *Uhe entire net income over and above 
 five thousand dollars received by the corporation subject 
 to the law." The return, therefore, requires statements 
 of actual receipts and payments, and not of profits 
 *^ gained," expenses "incurred," interest "accrued" and 
 losses "ascertained." The Secretary of the Treasury evi- 
 dently does not approve of this view, which assesses the 
 tax in as absurd a manner as when a poll tax is levied 
 
THE FEDERAL CORPORATION TAX 371 
 
 according to the length of the individual's nose or the color 
 of his eyes and the texture of his hair. The official instruc- 
 tions concerning the form of returns and the manner of 
 assessing the tax specifically state that the tax is levied 
 on net profits. The expression ' ' net income ' ' is used merely 
 "because there can be no question as to it embracing 
 amounts of income received from . . . any source, while 
 there might be some question as to whether or not such 
 items would be included in the expressions * gross profits' 
 or* gross earnings.' " 
 
 A detailed study of the official regulations for making 
 up the tax returns gives convincing evidence that it is 
 the intention of the administrators of the law to interpret 
 the provisions as far as possible in accordance with pre- 
 vailing accounting principles. The Secretary of the Treas- 
 ury, when considering the vexed Question of interpreting 
 the law, is reported to have consulted eminent account- 
 ing experts, wh j suggested or approved the rules and regu- 
 lations drafted for the enforcement of the measure. The 
 official definitions of the terms ''gross income," ''income," 
 *' profits," etc., conform very closely to the definitions com- 
 monly accepted by accountants and others concerned with 
 business affairs. The application of the tax is thereby 
 rendered much more practicable and effective than would 
 have been the case had the opinions expressed by the 
 Attorney-General been allowed to stand. 
 
 The official "softening" of the objectionable provisions 
 'of the law is accomplished partly through a classification 
 of corporations subject to the tax according to the nature 
 •of their business. From each class a separate form of 
 return is required. The classification is as follows : 
 
 (1) Banks and other financial institutions, including 
 insurance companies. 
 
 (2) Transportation companies. 
 '(3) Manufacturing corporations. 
 
 (4) Mercantile corporations. 
 
 (5) Miscellaneous corporations. 
 
372 A. M. SAKOLSKI 
 
 Under tlie law no special provision is made for mining 
 corporations, and tliej^ are classed as manufacturing com- 
 panies. 
 
 The definition of net income as required by law to be 
 stated in the tax returns is adjusted to the nature of the 
 business of each class. The rules prescribed are palpable 
 efforts to correct the absurd accounting methods proposed 
 in the laAV. The ''gross income" of banks, insurance com- 
 panies and transportation companies is officially defined as 
 *'the gross revenue derived from the operation and man- 
 agement of the business, together with all amounts of in- 
 come . . . derived from all other sources." The word 
 ''revenue" is undoubtedly used advisedly in preference to 
 "receipts." The Interstate Commerce Commission desig- 
 nates "revenue" as the gross earnings (i. e., receipts from 
 operation), exclusive of "income" from investments and 
 outside sources. Miscellaneous receipts are designated in 
 the Interstate Commerce Commission schedules as "other 
 income" and are not included under the operating revenues. 
 In the tax returns, however, "gross income" has a wider 
 application than is ordinarily implied in "gross revenue," 
 since it embraces income received from all sources, includ- 
 ing the ]3rofits from the sale of capital assets. Assuming 
 transactions to be on a cash basis, the "gross income" of 
 transportation companies, according to the tax returns, 
 conforms very closely to actual cash receipts. In the case 
 of banks and other concerns, however, where cash or an 
 equivalent is the commodity dealt in, a decided distinction 
 between gross revenue and gross receipts is intended in 
 the prescribed methods of making up the tax returns. 
 
 In the case of manufacturing and mercantile corpora- 
 tions, the official interpretations clearly distinguish "gross 
 income ' ' from ' ' actual receipts. " " Gross income ' ' of man- 
 ufacturing concerns is defined as "the total amount ascer- 
 tained through an accounting (through an inventory in 
 the case of mercantile corporations) that shows the differ- 
 
THE FEDERAL CORPORATION TAX 373 
 
 ence between the price received for the goods as sold and 
 the cost of such goods as manufactured." The cost of the 
 goods "shall be ascertained by an addition of a charge to 
 the account of the cost of the goods as manufactured during 
 the year, the sum of the inventory at beginning of the year 
 and a credit to the account of the sum of the inventory at 
 the end of the year." To the resulting balance, the items 
 of other income or profit not already subject to the tax 
 are to be added. 
 
 Though this method of accounting conforms to the pre- 
 vailing practice, corporations making the return will expe- 
 rience serious difficulties from the requirement in the offi- 
 cial regulations that in the gross income no account shall 
 be taken of "allowances for depreciation of property nor 
 for losses sustained which are to be taken account of in 
 ascertaining the net income subject to the tax under the 
 proper heading in the authorized deductions." The prob- 
 lem of correct depreciation accounting is extremely impor- 
 tant in modem business operations, and an endeavor to 
 apply specific methods, as we shall point out later, is bound 
 to meet with serious opposition. 
 
 In reference to the statutory deductions by which net 
 income is determined from gross income, the Treasury 
 Department's regulations seem to controvert in every de- 
 tail the language of the Act. The law as finally enacted 
 specifically provides that "net income shall be ascertained 
 by deducting front the gross amount of the income . . . 
 received within the year . . . (first) all the ordinary 
 and necessary expenses actually paid within the year out 
 of the income in the maintenance and operation of its busi- 
 ness and properties; (second) all losses actually sustained 
 within the year and not compensated by insurance or other- 
 wise, including a reasonable amount for depreciation . .' . 
 and (third) interest actually paid within the year on its 
 bonded or other indebtedness to an amount of such bonded 
 or other indebtedness not ^exceeding the paid-up capital 
 
874 A. M. SAKOLSKI 
 
 of the corporation." Heedless of the literal meaning of 
 these provisions, which if carried out to the letter would 
 have rendered the Act impossible of application, the Sec- 
 retary of the Treasury interprets them in accordance with 
 correct accounting principles. He admits that "to hold 
 that the phrase 'actually paid within the year' requires 
 evidence of actual disbursement in cash during the year, 
 would prohibit anything like accurate returns being made 
 by any corporation and would render it impossible to carry 
 out the main purpose of the law." The authorized deduc- 
 tions, therefore, are made to include all expense items 
 ''acknowledged as liabilities by the corporation making the 
 return and which are entered as such on the books from 
 January 1st to December 31st." In other words, net in- 
 come is to be "made up from the ledger and not from the 
 cash book." 
 
 In ascertaining the "ordinary and necessary" expenses 
 included under the authorized deductions, the manufactur- 
 ing and mercantile corporations carrying supplies of mate- 
 rials on hand are instructed to include in such expenses 
 and charges only the cost of the materials and supplies 
 actually disbursed and used in the operations covering the 
 year in which the returns are made. This is demanded 
 by every sound system of accounting. The tax return, 
 however, covers the calendar year — a provision not objec- 
 tionable in itself, but one that is likely to cause consider- 
 able expense and inconvenience to corporations with fiscal 
 years not coinciding with the calendar year. A correct 
 statement of profits necessarily requires the taking of an 
 inventory or its equivalent. This generally involves con- 
 siderable expense, delay and inconvenience. The necessity 
 of a special inventory because of the tax is a just source 
 of complaint on the part of the corporations whose fiscal 
 year differs from the calendar year. To avoid as much 
 friction as possible in collecting the tax for the calendar 
 j^ear of 1909, the instructions issued by the Treasury De- 
 
THE FEDERAL CORPORATION TAX 375 
 
 partment provide that ^* Where an inventory or its equiva- 
 lent was not taken at the close of the year 1908, a supple- 
 mentary statement showing such inventory approximately 
 must be submitted with the return." No similar substitu- 
 tion of an inventory in succeeding years is permitted in 
 the returns. 
 
 The requirement of a separate statement of depreciation 
 expenses under the authorized deductions will likewise 
 cause considerable inconvenience and difficulty to many 
 corporations, necessitating in some instances complete 
 alteration in the methods of computing depreciation, obso- 
 lescence and general deterioration of property. The meth- 
 ods of charging such losses vary with different concerns. 
 In some industries expenses covering depreciation are 
 intricately woven with the expenses of repairs and renew- 
 als, resulting in the absence of separate depreciation ac- 
 counts. In others, again, the various kinds of depreciation 
 and deterioration are charged to separate accounts. Some 
 items of depreciation are properly included among the ordi- 
 nary expenses of maintenance and operation, whereas 
 other items are met by appropriations for new construc- 
 tion, betterments, etc., or are met by income from special 
 sources not credited to the revenue account. No better 
 illustration of the complex system of charging off deprecia- 
 tion or extinguishment of assets prevailing in a modern 
 corporation is afforded than that of the United States Steel 
 Corporation. The income account exhibited in the pub- 
 lished reports of this gigantic industrial combination shows 
 four general items of expense wholly or partly of the na- 
 ture of depreciation or amortization charges. These are 
 
 (1) Sinking funds on bonds of subsidiary companies. 
 
 (2) Depreciation and extinguishment funds (regular 
 provisions for the year). '^ 
 
 (3) Extraordinary replacement funds (regular provi- 
 sions for the ydarj. 
 
 ■ (4) Special replacement and improvement funds. 
 
376 A. M. SAKOLSKI > 
 
 These items, though partly chargeable to capital ac- 
 count, on the ground of promoting increased efficiency and 
 earning capacity, are considered by the managers to be 
 a proper charge against current earnings. Whether, under 
 strict accounting principles they would in all cases be 
 allowed to stand as necessary depreciation expenses under 
 the authorized deductions is largely a matter of opinion. 
 Depreciation accounts, reserv^es and sinking fund accounts 
 are not necessarily entries of actual and tangible transac- 
 tions. They are records of provisions occasioned by current 
 or prospective losses in value. The money value of the 
 provisions therefore must at all times be estimated, the 
 exact amount not being capable of absolute determination 
 in advance. The estimates, however, should be based on 
 expert opinion and the lessons of experience, and it is a 
 matter of business policy with accountants to leave such 
 matters to the managers and directors.* 
 
 The diverse methods of providing for depreciation in 
 undertakings having comparatively simple and uniform 
 
 *The annual report of the International Harvester Company contains a 
 lucid explanation of the character of the depreciation and extinguishment 
 charges in a modern corporation of large size and extensive activities: 
 "Reserves for Plant Depreciation and Extinguishment: 
 
 ''The annual appropriations from earnings for depreciation and extin- 
 guishment reserves constitute the necessary provision for the impairment and 
 consumption cf the plant assets utilized in the output of the product and 
 should prove sufficient to reproduce the properties as their replacement 
 becomes necessarj\ Depreciation on plant property is based on rates estab- 
 lished by recognized authorities. Amortization of ores is calculated at rates 
 which will provide sinking funds sufficient to retire the whole of the Com- 
 pany's capital invested in mining properties before the extinguishment of the 
 ore bodies. Timber depreciation is figured at the market values of stumpage 
 for the various kinds of timber cut. This stumpage provision will equal the 
 original cost of the timber properties when the present standing timber is 
 exhausted, after allowing a fair residual value for the lands either for re- 
 forestry or for agricultural purposes, 
 "Special Maintenance: 
 
 "These reserves provide for relining of blast furnaces, maintenance of 
 docks and harbors, and similar renewal work which is of a current nature, 
 but which occurs at irregular intervals. To provide for the renewal when 
 it becomes necessary the future cost of the work is apportioned over current 
 operations. A reserve is also being created to provide for the elevation of 
 certain railroad tracks in the city of Chicago, and an initial installment of 
 $200,000.00 was set aside for this purpose in 1908." 
 
THE FEDERAL CORPORATION TAX 377 
 
 operations such as the railroad companies was well exhib- 
 ited when the Interstate Commerce Commission prescribed 
 equipment depreciation accounts for railroads. The rail- 
 road companies most active in protesting against the keep- 
 ing of such accounts were among the largest and best- 
 equipped in the land. It was claimed on the part of some 
 of these companies that the renewals and repairs to their 
 equipment were made at a rate which tended to maintain 
 the property at a uniform standard of efficiency at all times. 
 Accordingly, there was no necessity for depreciation ac- 
 counts on their books. A number of other railroads, includ- 
 ing the Pennsylvania, the Baltimore & Ohio and the Nor- 
 folk & Western, provided for the depreciation of equip- 
 ment largely through interest and sinking fund charges 
 on their equipment obligations. Probably in no two im- 
 portant railroad systems were the methods of treating 
 depreciation charges identical. 
 
 Although the purpose of a depreciation account is to 
 show the amount set aside from current income for losses 
 in the value of assets due to use or obsolescence, the meth- 
 ods of accounting for such losses vary according to the 
 nature of the business and the judgment of the proprietors 
 or accountants. Professor Lawrence Dicksee, in his 
 standard work ''Advanced Accounting," describes in de- 
 tail six different methods of computing depreciation, each 
 having advantages and disadvantages. Though for general 
 accounting purposes all methods may be equally sound, 
 the employment of one method rather than another may 
 result in considerable disparitj^ in the net income of differ- 
 ent periods. The setting aside of a fixed amount each year 
 to cover depreciation of an important group of assets, in- 
 stead of varying the amount according to the actual esti- 
 mated depreciation or the actual estimated earning capac- 
 ity of the assets in question, can easily result in a differ- 
 ence in the net earnings of the business during one year 
 large enough to determine whether or not the tax shall be 
 
378 A. M. SAKOLSKI 
 
 assessed. The claim may be properly made that a de- 
 ficiency in net earnings in one year due to use of a vary- 
 ing annual rate of depreciation is offset by correspondingly 
 increased earnings during other years, but unless it can 
 be assumed that the tax will be fixed and permanent, this 
 argument has no bearing on the problem under considera- 
 tion. 
 
 With mining companies the question of a ''reasonable" 
 allowance for depreciation is extremely complex and diffi- 
 cult of exact determination. The actual depreciation of 
 the machinery and equipment can be determined within 
 moderate limits, but the actual diminution of value in re- 
 sources due to production may baffle the wisest expert. 
 No provision is made in the law for the progressive depre- 
 ciation or amortization of mine properties, but it seems 
 safe to conclude that the corporations can include an esti- 
 mate of such charge in the expenses of the year. 
 
 The statutory requirement of a separation of deprecia- 
 tion charges from the ordinary and necessary expenses 
 of operation and maintenance has an administrative ad- 
 vantage in gauging false returns. Unless, however, con- 
 siderable freedom is permitted in estimating depreciation 
 and similar expenses, serious friction and inconvenience 
 will result. 
 
 The statutory provision concerning losses to be deducted 
 from gross income covers losses that are "actually sus- 
 tained." The expression "actually^ sustained" has been 
 severely criticised by accountants, on the ground that the 
 correct amount of losses chargeable against the income of 
 a year is frequently not ascertained until a subsequent 
 period. The distinction between losses "sustained" and 
 losses "ascertained" is of considerable importance in some 
 industries. In transportation, in mining and in construc- 
 tion operations, the financial losses resulting from wrecks, 
 accidents and other disasters are frequently not determined 
 until after a series of adjustments or legal adjudications 
 
THE FEDERAL CORPORATION TAX 379 
 
 extending over a period of years. It is the practice of many 
 concerns to carry suspense accounts to cover liabilities of 
 an uncertain nature. No provision permitting this, how- 
 ever, is found either in the law itself or in the regulations 
 pertaining to its execution. 
 
 The use in the law of the expression ''actually paid" 
 in connection with interest charges, if applied literally in 
 the execution of the Act, would have been a gross viola- 
 tion of modem accounting practice. Interest obligations 
 are generally payable half-yearly, but the date of disburse- 
 ment varies, not only with different corporations, but with 
 different issues of securities of the same corporation. A 
 corporation with interest charges payable at the end of 
 January instead of December may show a different 
 ^'actual" disbursement for the calendar year covered in 
 the tax returns than is exhibited by the books of account. 
 The omission from the financial statements of business 
 concerns of liabilities accrued but not actually due or dis- 
 bursed, is a fruitful source of fraud and deception. Ac- 
 countants and auditors guard closely against this means 
 of misrepresentation. Hardly two years ago a secretary 
 of a public service corporation issued a statement of net 
 earnings on June 1 for the previous five months, putting 
 in all the items of earnings and expense for the time, but 
 ignoring the accrued interest on $750,000 of 5 per cent 
 bonds outstanding, on the ground that the coupons were 
 not due until July 1 and were therefore not a liability at 
 the time the statement was made up. The modern method 
 of accounting, based on the system of accruals, is alto- 
 gether contrary to this idea. It is the evident intention 
 of the Treasury Department to follow accounting prin- 
 ciples in spite of the phraseology of the law. *^A11 ex- 
 pense items under the various heads acknowledged as lia- 
 bilities by the corporations making the return are held to 
 be proper deduction from gross income." 
 
 An interesting query arises as to whether liabilities ac- 
 
380 A. M. SAKOLSKI 
 
 knowledged by a corporation on account of unpaid cumu- 
 lative dividends on preferred stock are a proper deduction 
 from gross income. Cumulative dividends as a legal lia- 
 bility may differ in character from interest charges, but 
 from a strict accounting point of view, the only distinction 
 is that the pajTnent of the dividends can be postponed 
 indefinitely regardless of net earnings, whereas the interest 
 charges are met from current income. In both cases, the 
 charge is for the use of capital and remains a liability until 
 paid. The general balance sheets of corporations ordi- 
 narily do not include back dividends on cumulative pre- 
 ferred shares among liabilities. This, however, is a matter 
 of custom rather than reason. The indebtedness is a lien 
 against surplus earnings and assets and is therefore a lia- 
 bility. In view of the accounting practice, there can be 
 little doubt that in the returns made by corporations under 
 the federal corporation tax law, no deduction from gross 
 income on account of cumulative dividend charges will be 
 permitted though such charges may be "acknowledged as 
 liabilities" and are "so entered on the books as to consti- 
 tute a liability against the assets of the corporation mak- 
 ing the return." 
 
 Aside from the relations of the new corporation tax 
 law to the general principles of accounting practice a num- 
 ber of minor though not altogether unimportant bookkeep- 
 ing and accounting problems are involved in the assess- 
 ment of the tax. These will undoubtedly call for formal 
 decisions on the part of both the administrative officials 
 and the courts. The complexity of corporate organization 
 and corporate activities has rendered practically impos- 
 sible the intelligent and accurate statement of the financial 
 results of business corporations in the form of a brief 
 schedule. Considerable latitude of variation from the exact 
 facts in any particular case may result without a "wilful 
 intent to defraud the Government of revenue." Almost 
 every statement of profits of a going concern, no matter 
 
THE FEDERAL CORPORATION TAX 381 
 
 how carefully and conscientiously drawn up is, at best, 
 an estimate and not a statement of positive truth. Both 
 English and American courts have held that inasmuch as 
 the ascertainment of profits is necessarily a matter of esti- 
 mate or opinion, ''all that is required is that the estimates 
 be fairly and honestly made without any fraudulent inten- 
 tion or purpose of deceiving anyone and that they conform 
 to the constitution of the corporation."* It can hardly be 
 expected, therefore, that in the determination of net in- 
 come for the purpose of tax assessment, such processes as 
 an inventory of the material on hand, the cost of finished 
 or partly finished goods, the wear and tear of machinery 
 and other equipment, liability to losses from bad debts, 
 losses from obsolescence and extinguishment of assets, etc., 
 etc., will be accounted for similarly in all corporations and 
 will conform in every detail to actual fact. The earning 
 of profits represents a continuous operation. Actual re- 
 sults can be definitely stated only when the business is 
 wound up and all assets realized in the form of cash. 
 
 The great diversity in the methods and activities of 
 business corporations underlies many of the difficulties to 
 be met with in taxing their net incomes on an equitable 
 basis conforming to accounting practice. The endeavor to 
 obviate these difficulties by a simple classification of busi- 
 ness corporations into categories can be only partially suc- 
 cessful. The methods of accounting in large corporations 
 are frequently impractical when applied to small concerns 
 of the same class. Capitalized items of expense in one 
 case may constitute proper charges against income in the 
 other, and small capitalization may effect a shovdng of 
 profits which would be entirely wiped out under a large 
 capitalization. 
 
 , Without attempting to cover in detail any or all of the 
 accounting problems which may require adjustment in the 
 assessment of the tax upon the net income of corporations, 
 
 * A. Lowes Dickinson; "The Profits of a Corporation," 
 
382 A. M. SAKOLSKI 
 
 a few will be selected as illustrations of the difificulties that 
 may be expected in the application of a general tax on 
 corporate incomes. 
 
 The treatment of extraordinary or extraneous income 
 in the tax returns will undoubtedly be a source of contro- 
 versy. Almost every corporation receives occasionally 
 large items of income or experiences exceptional losses 
 which are not the result, either directly or indirectly, of 
 its operations. Such profits or losses may arise from the 
 sale or transfer of fixed assets, from the issue or redemp- 
 tion of capital securities, or from the investment of special 
 reserve or trust funds. The federal law imposing the tax 
 on the income of corporations requires all such extraneous 
 revenues to be added to the income of the year during which 
 they are received and all such losses to be deducted. In 
 the sale of fixed assets the regulations provide that 
 
 "If the assets were acquired subsequent to January 1st, 1909, the difference 
 between the selling price and the buying price shall constitute an item of 
 gross income to. be adde'd to or subtracted from gross income according to 
 whether the selling price was greater or less than the buying price. If the 
 capital assets were acquired prior to January 1st, 1909, the amount of 
 increment or depreciation representing the difference between the selling and 
 buying price is to be adjusted so as to fairly determine the proportion of 
 the loss or gain arising subsequent to January 1st, 1909, and which proportion 
 shall be deducted from or added to the gross income from the year in which 
 the sale was made." 
 
 This, as well as the further provision that to the price 
 realized for the asset there should be added any amount 
 previously charged to income which remains as a depre- 
 ciation reserve to such asset, can cause no objection in 
 theory. In practice, however, profits and losses of the na- 
 ture described above are in many cases exceedingly difficult 
 to determine. Frequently they do not appear in the in- 
 come account at all, but are credited or charged directly 
 to a reserv^e or an asset account. Where the losses are 
 large, as in the dismantling of a whole plant or the abandon- 
 ment of equipment rendered useless through unforseen 
 circumstances, the total net income of the year may be 
 wiped out and a serious deficit result. In such case it is 
 
THE FEDERAL CORPORATION TAX 383 
 
 only fair for tlie corporation to provide for the loss grad- 
 ually out of the profits of several years. Large profits 
 arising from a similar source may likewise be equitably 
 distributed over a period of years instead of being added 
 in a lump sum to the net profits of a single year. The 
 accounting of extraordinary gains and losses in this man- 
 ner, however, although in harmony with business practice, 
 is evidently not permitted by the regulations governing 
 the imposition of the federal corporation tax. 
 
 The proper distribution of the gains and losses arising 
 from the premiums received and the discounts paid in the 
 issue of capital securities likewise have no consideration 
 in the provisions relating to the tax. Discounts and 
 premiums on securities issued are an addition to or a de- 
 duction from the interest rate charged for the use of capital. 
 The amount thereof, accordingly, should not be charged 
 or credited to the income of a single year. The common 
 practice is to distribute the amount of the gain or loss 
 over a period of years, conforming where possible to the 
 period during which the securities are to remain an obliga- 
 tion of the corporation. It is very doubtful, however, 
 whether this procedure will be permitted in the making up 
 of the tax returns.* r 
 
 The payments on account of sinking funds and amortiza- 
 tion will also have an important bearing on the account- 
 ing procedure to be observed in making up the tax returns. 
 Where sinking funds are accumulated for the purpose of 
 debt extinguishment without reference to corresponding 
 waste or reduction in the value of assets the payments 
 theoretically are not a proper charge against current in- 
 come. However, because of the practice of inserting pro- 
 visions in trust deeds requiring the sinking fund payments 
 
 * Court decisions have held that premiums received from the issue of 
 capital securities constitute a part of the capital of the corporation and as 
 such are not divisible as profits among the shareholders. Premiums re- 
 ceived from the issue of stock and bonds are usually added to the surplus of a 
 corporation, thus becoming a part of working capital in fact as well as in 
 theory. 
 
384 A. M. SAKOLSKI 
 
 to be charged to current profits in the same manner as 
 interest, such charges in many cases are regarded as proper 
 deductions from gross income before net income is finally 
 determined. In order to have the tax returns conform to 
 correct accounting principles, it is essential that the sink- 
 ing fund provisions be construed in accordance with their 
 intent. If the pajnnents represent merely a depreciation 
 provision, they may be construed as proper deductions 
 from gross income. On the other hand, if the payments 
 represent obligatory reduction or extinguishment of debt 
 without corresponding reduction on the value of assets, 
 they should have no place in the tax returns. The regu- 
 lations of the Treasury Department contain no instruc- 
 tions relative to an analysis of the purpose and intent of 
 sinking fund payments. It may be assumed, however, that 
 the corporations subject to the tax will be allowed much 
 freedom in the matter. '<- 
 
 A further question of correct accounting involved in the 
 determination of the net income of corporations subject to 
 the tax concerns losses imputed to a decline in the market 
 value of current assets. An established rule of accounting- 
 requires current assets such as raw materials, manufac- 
 tured goods, etc., to be valued at cost or market value, 
 *' whichever is the lowest." A decline in market value 
 below cost is chargeable against the business. Different 
 methods of accounting for the loss are employed, the pro- 
 cedure varying according to the nature of the assets in 
 question and the character of the business. The decline 
 in market value may be merely a fluctuation and not a 
 permanent loss in value. The policy of many corporations 
 is to account for such reductions in market value through 
 the creation of reserves among their liabilities equal to 
 the difference between the market (inventory) value and 
 the cost value, w Charging the profits of the year with an 
 uncertain loss is thus avoided. In making up their returns 
 for the assessment of the tax, corporations may claim the 
 
THE FEDERAL CORPORATION TAX 385 
 
 privilege in some years of deducting from the gross income 
 the full amount of loss represented by the declines in the 
 market value of current assets, without crediting the profits 
 of other years with the recovery of such losses. How far 
 such practices will result in evasion of the tax may never 
 be determined. Concerns having on hand large supplies 
 of commodities such as iron ore, cotton, grain, etc., whicli 
 are subject to sharp fluctuations in market price, will have 
 ample opportunity to adjust the returns to suit their 
 purposes. 
 
 A problem of no small importance in relation to corpo- 
 ration profits at the present time and one that may be ig- 
 nored entirely in the assessment of the tax is the treat- 
 ment of the so-called '* paper profits." Such profits are 
 not realized in the form of cash or its equivalent and are 
 accordingly not brought into the revenue statement of the 
 corporation. These profits arise usually in the exchange 
 of assets or in the redemption of liabilities. They may, 
 however, be the result of the revaluation of assets or the 
 receipt of stock dividends. Although the crediting of such 
 profits directly to surplus does not affect the income ac- 
 count of the year during which the profits are *' written" 
 on the books, the actual income earned in future j^ears 
 may be affected whenever the increased value of the assets 
 represented by the ''paper profits" are realized in the form 
 of cash through sale of the assets. In such an event the 
 final realization of the "paper profits" would escajDe taxa- 
 tion, since no profits mil be shown by the books of the 
 corporation. Thus, a corporation exchanges securities of 
 $1,000,000 cost value for other securities having no definite 
 market value, but which are placed on the books by the 
 directors at $1,500,000. The resulting "paper profit" of 
 $500,000 is credited to the surplus account of the corpora- 
 tion, but inasmuch as nothing is received in the form of 
 cash assets, the profit does not appear in the income state- 
 ment of the year. Accordingly no tax can be assessed for 
 
 B— VIII— 25 
 
386 A. M. SAKOLSKI 
 
 the amount. During the next year, however, the securities 
 in question are sold at their book value. The "paper 
 profit" which was credited to surplus the previous year 
 thus becomes an actual profit and is available for distribu- 
 tion among the shareholders. The amount is not subject 
 to the tax, however, for the books show no additional in- 
 come during the year from the sale of the securities, but 
 merely a transfer of assets. Evasions of this character 
 would not be uncommon in these days, when many of the 
 large corporations are holding companies, and mergers 
 through exchange of securities are constantly taking place. 
 Many other instances may be cited of possible conflicts 
 with modern accounting practice in the application of the 
 federal corporation tax. It can hardly be expected that 
 a revenue measure of as wide an application as the one 
 under consideration can meet all the conditions arising 
 from the complexity of modem business organization. It 
 seems to be the administration's policy to interpret the 
 provisions of the law as broadly and as liberally as is con- 
 sistent with faithful execution, and corporations subject 
 to the tax are not required to follow specific methods of 
 bookkeeping in order to comply with the measure. 
 
SECTION E. 
 
 PRIMER ON COST KEEPING.* 
 
 1. The Primer on Cost Keeping is based on the assump- 
 tion that a system of cost keeping should prove of value 
 to practically every administrative officer required by his 
 position to judge of the relative efficiency of different men, 
 appliances, and methods in the economical production of 
 finished work. 
 
 2. The degree of refinement to which the analysis of 
 costs in any system should be carried must be determined 
 by experience. Certain general principles can, however, 
 be laid down. If the system does not go sufficiently into 
 detail, it is probable that discrepancies in the cost of identi- 
 cal products at different locations, under different condi- 
 tions, handled by different employes, or produced by dif- 
 ferent methods, will not be indicated, and that the purpose 
 of cost keeping will be defeated. If the system is too com- 
 plex, it wiU be slow and heavy, may break of its own weight, 
 and its results may be reached too late to apply corrective 
 measures. 
 
 3. The successful system must be along lines coming 
 within these limits, and for a beginning it is believed that 
 it should be as simple as will secure results, with a view 
 to its expansion along such lines as experience may show 
 to be desirable. It should, however, be planned to have 
 the cost accounts square in or be in agreement with the 
 general fiscal records. The additional expense of such a 
 detail is usually more than compensated for by the check 
 thus afforded upon both systems and the additional re- 
 
 * Originally prepared under the direction of a special committee appointed 
 by President Roosevelt and here reproduced by permission of Hon. Lawrence 
 O. Murray, chairman. 
 
 387 
 
388 PRIMER ON COST KEEPING 
 
 spect wMcli cost data from such systems receive. While 
 exact agreement is the accounting ideal, approximate agree- 
 ment will secure valuable results; and if absolute accuracy 
 can be obtained only at great expense such approximation 
 may be sufficient. 
 
 4. In making the initial outline for a cost system it 
 will be advisable to carry the analysis further along the 
 line of the purposes or operations for which expense is 
 incurred than along the line of the nature of the individual 
 items of expense. Thus, in a scientific bureau it is of more 
 importance to know the costs of the field investigations, 
 the office investigations, the laboratory work, the comput- 
 ing, the editing, and the administration than to know the 
 costs for services, travel, purchases, rentals, etc. 
 
 5. It is absolutely necessary in planning such a system 
 to have in mind the scheme of organization upon which it 
 rests. For this reason no uniform system is possible for 
 organizations of different kinds. Such systems are at best 
 only suggestive of others. If, however, it is desired to 
 study some such systems and to note the relation of various 
 forms devised to record the steps in the processes, the 
 reader is advised to consult the two books by Horace 
 Lucian Arnold, The Complete Cost Keeper, and The Fac- 
 tory Manager and Accountant. Probably neither of these 
 systems could be adapted to the needs of any governmental 
 organization, but these books and the others hereafter re- 
 ferred to are suggestive and valuable. 
 
 6. As the results are valuable, primarily, to the admin- 
 istrative officer in direct charge of the operations covered 
 by the cost accounts, he should suggest the lines along 
 which they should be kept, and should know of the steps 
 followed in its processes, and thus he will be able to judge 
 of its results. He need not prepare the forms or keep the 
 records — ^bookkeepers and clerks will be available to per- 
 form such service — ^but he should be able to judge of the 
 
PRIMER ON COST KEEPING 389 
 
 quality of the work submitted upon the outline he has laid 
 down. 
 
 7. Cost keeping is that branch of accounting which is 
 concerned with the segregation of the various items of ex- 
 pense, incurred in the prosecution of a single piece of 
 work, from among all other items of expense incurred in 
 a general line of industry, and the setting over against 
 the total of such segregated items the quantity of result- 
 ant work or product. The definition of cost keeping as a 
 part of a general system of accounting can, perhaps, be 
 made clearer by the following contrast, wherein under 
 ''Scope of general bookkeeping" we include all fiscal 
 transactions of every class, and under ''Scope of cost 
 keeping" such transactions of each class as are neces- 
 sary for a complete cost system for so much of the 
 organization's operations as the system is intended to 
 cover. Commercial accounting is more and mo^'e nearly 
 approaching the ideal as to costs, but it is not yet the uni- 
 versal rule to have commercial bookkeeping show a com- 
 plete analysis of the purpose of all transactions. Govern- 
 mental bookkeeping, except in certain classes of accounts, 
 has always been limited to a record of cash transactions, 
 and when so limited excludes from its record all transac- 
 tions resulting in accounts receivable or payable and all 
 transactions wherein there is a transfer of property or of 
 services without any corresponding transfer of money, 
 either contemporaneously or subsequently. 
 
 General bookkeeping, as here used, includes every 
 transaction which involves the fiscal condition of the or- 
 ganization. 
 
 SCOPE OF GENERAL BOOK- SCOPE OF COST KEEPING. . 
 
 KEEPING. 
 
 8. General bookkeeping is con- 10. Cost keeping, on the other hand, 
 
 cerned with all considers only those 
 
 A — resources; valuable assets of A — resources which are employed 
 
 whatever nature available for in the operations for which 
 
 use in the operations of any costs are sought, as the ma- 
 
390 
 
 PRIMER ON COST KEEPINa 
 
 business, whether 
 actually employed; 
 
 or not 
 
 B — liabilities; indebtedness, with- 
 out regard to how or when in- 
 curred; 
 
 C — income; cash receipts, wheth- 
 er from earnings, borrowed 
 funds, or other sources; 
 
 D — expenditures; cash disburse- 
 ments, whether in payment 
 for material and labor fur- 
 nished, repayments of loans 
 or dividends; 
 E — gains, whether resulting from 
 productive operations, or from 
 the enhanced value of assets 
 either fiscal or material; 
 F — losses, whether resulting from 
 productive operations or from 
 other causes, as trade condi- 
 tions, material disaster, liti- 
 gations, etc. 
 9. General bookkeeping as a rule 
 considers the operations of an or- 
 ganization, both fiscal and industrial, 
 as a whole or in large sections. Its 
 entries cover, generally, the exchange 
 of value between individuals or in- 
 dependent organizations. It does not 
 take account of inventories of ma- 
 terials, of machinery, tools or equip- 
 ment, of plant, or of other valuable 
 assets; nor consider the questions of 
 depreciation, fixed charges and liabili- 
 ties accrued but not due, except at 
 periods of profit taking 
 
 terials and supplies consumed 
 and the plant employed, but 
 not any unproductive capital 
 which may be held for future 
 use; 
 
 B — liabilities, or portions thereof, 
 which are incurred wholly for 
 the given operations, as the 
 indebtedness for materials and 
 labor used, but not borrowed 
 capital, nor the indebtedness 
 for unused material purchased 
 against possible rise in price; 
 
 C — incomes which are drawbacks 
 or direct repayments upon the 
 elements of cost entering the 
 given product as refunds of 
 paid overcharges on any kind 
 of expense entering the pro- 
 duct, but not receipts for pro- 
 duct previously manufactured 
 and sold; 
 
 D — expenditures which are the 
 measure of certain expenses 
 incurred in producing the 
 given output, but not pay- 
 ment of liabilities generally; 
 
 E — gains which are drawbacks as 
 referred to under income, but 
 not profits in general; 
 
 F — losses which are industrial, 
 such as depreciation of build- 
 ings and equipment, but not 
 those which are commercial, 
 such as bad debts, etc. 
 11. Cost keeping considers the in- 
 dustrial operations of an organization 
 in detail, but is not concerned in its 
 purely fiscal transactions. Its entries 
 cover the movement of values within 
 the organization itself rather than be- 
 tween it and others. It must consider 
 the inventories of all materials, plant, 
 etc., from day to day, and take ac- 
 count of depreciation, fixed charges 
 and liabilities accrued, in proportion 
 to the charge which these expenses 
 become upon the articles of the 
 finished product. 
 
 12. The contrast between general commercial book- 
 keeping and cost keeping is not always clearly drawn. In 
 fact, the two purposes are often attempted in one scheme 
 of accounting where the product is practically uniform 
 
PRIMER ON COST KEEPINa 391 
 
 and the operations are continuous. In sucli cases a good 
 system of analytical bookkeeping is often sufficient when 
 an analysis is made according to the purpose as well as 
 the nature of the expense. For example, the accounts of 
 all plants for the production and distribution of power, 
 heat, light, or water can probably be best handled by such 
 a method. Unit costs may be obtained by making a sum- 
 mation of the charges to certain accounts and measuring 
 the amoun,t of the product or output for the period cov- 
 ered by such accounts. 
 
 13. In the commercial world, profit is the test and 
 measure of success. Profit is the excess of value received 
 over the cost of producing and marketing. Competition 
 makes price fixing a matter largely beyond the control of 
 the producer; therefore, the possibility for increased 
 profit lies only in a reduction of the cost of producing and 
 marketing. Usually this cost is made up of various ele- 
 ments of expense, and it is necessary to get at the propor- 
 tions and amounts of such elements in order to learn 
 where it is possible to economize without injuring the 
 product. 
 
 14. We thus come to the governing principle of cost 
 accounting, which, by collating such information, enables 
 the producer to know the amounts of the several elements 
 of expense which have entered into the total cost of any 
 piece of work, and from such information to develop more 
 economical methods for the conduct of future operations. 
 
 15. From the standpoint of profit there does not seem 
 to be the necessity for the study of costs in governmental 
 work that there is in the commercial world, but the rela- 
 tion between the outlay of money and the return of valu- 
 able product is much the same in the government service 
 as in private work. Results should be viewed in the light 
 of their costs. In many instances public policy may re- 
 quire the Government to remain in enterprises not actual 
 successes from the commercial point of view, viz, that of 
 
S92 PRIMER ON COST KEEPING 
 
 producing articles as cheaply as they can be purchased. 
 For instance, in the construction of fortifications or the 
 manufacture of ordnance the Government might continue 
 the present system in order to retain control of important 
 information and plans, even if such fortifications could be 
 built more cheaply by contract or the arms obtained more 
 cheaply by purchase. But even in such cases the study 
 of the component elements of expense and the attending 
 conditions may eventually lead to such modifications of 
 organization and methods as to turn a hitherto losing or 
 expensive operation into an actually pajdng enterprise. 
 Actual conditions must always be considered, and it is 
 undoubtedly true that the Government cannot do all 
 things in the same way that a private corporation or in- 
 dividual can do them. On the other hand, this very fact 
 that there are differences in attending conditions maj' re- 
 sult in a failure to pay proper attention to the relation of 
 outlays of money and the results obtained from such out- 
 lays. 
 
 16. Governmental cost keeping should aid in obtain- 
 ing economical administration, in perfecting effective or- 
 ganization, and in estimating the expense for future op- 
 erations along similar lines. 
 
 17. Comparatively little has been written upon cost 
 keeping, because this subject is a very recent development 
 in accounting, which has been bom of the necessity of pro- 
 viding the very best information for the producers of this 
 industrial age. A bibliography of the subject appears at 
 the end of this primer. It is interesting to note that the 
 earliest publication on the general subject was from the 
 pen of an officer of the Ordnance Department United 
 States Army, and had particular reference to the systems 
 in use in the arsenals of the United States. 
 
 18. The first important step in cost keeping is to know 
 the results for which the organization is working. Though 
 as a matter of time the elements of expense come before 
 
PRIMER ON COST KEEPING 393 
 
 the finished product, yet it is necessary that the adminis- 
 trative officer who desires satisfactory cost accounts 
 should in advance determine upon the lines which the cost 
 keeping should follow. To do this he should consider the 
 various articles of his finished product and thereafter an- 
 alyze each into its several elements of expense, according 
 to certain general classes hereafter set out. 
 
 19. Each government organization, according to its 
 nature, exists for the purpose of producing a definite out- 
 put. This product consists of certain valuable results — 
 either those which are produced and are measurable in 
 bulk and are not usually divided into separate physical 
 units, or those which consist of many individually com- 
 plete units. It is important to observe this classification, 
 for it has a direct bearing upon the form of the account- 
 ing system which will best procure the costs of produc- 
 tion of any organization. 
 
 20. For the first class, whose product is measurable in 
 bulk and not usually divided into separate units, a system 
 of analytical bookkeeping is sufficient, when such an anal- 
 ysis of the expenses has been made according to the pur- 
 pose of the expenditure that the costs of various oper- 
 ations are obtainable from such accounts. Examples of 
 this first class of organizations are scientific and investi- 
 gating bureaus generally, and those for the production of 
 power, heat, and light, for conducting transportation en- 
 terprises, and for each individually complete section or 
 piece of work of the Engineer Department, the Isthmian 
 Canal Commission, and the Reclamation Service. 
 
 21. For the second class, the units of whose product 
 are individually complete, the system best adapted to pro- 
 cure satisfactory results is that known as factory cost 
 keeping based upon individual production or **job" or- 
 ders each for a separate item of output. Examples of this 
 second class of organizations are the manufacturing ar- 
 
394 PRIMER ON COST KEEPING 
 
 senals, the naval bureaus of ordnance, equipment, etc., the 
 printing offices, etc. 
 
 22. In addition to the foregoing general classification 
 of all business enterprises into two groups according to 
 the form of their products and the method of measuring 
 them it is desirable also to classify governmental opera- 
 tions according to their nature. By so doing there be- 
 comes available for any line the experience gained by oth- 
 er bodies in the same general line, both governmental and 
 commercial. Without such a grouping certain underly- 
 ing similarities are often obscured by the superficial dif- 
 ferences in detail. These classes are: 
 
 23. Manufacturing, which is the business of producing 
 in a factory a large number of identical units of output of 
 one or more kinds. Factories are divided into two classes : 
 
 A, Continuous process factories, which produce ar- 
 ticles in bulk and in which the individual units are not in 
 practice capable of identification as they pass through one 
 or more continuous operations. Examples: Bureau of 
 Engraving and Printing, in manufacture of postage stamps, 
 and mints and assay offices of the Treasury Department; 
 Bureau of Ordnance of the Navy Department, in the manu- 
 facture of explosives; and any power, heating, lighting, 
 or water plants. 
 
 B. Varied process factories, which produce single units, 
 each complete in itself, or groups of a definite number of 
 units of output, and where it is practicable under ordinary 
 conditions to measure the duration of each step in the pro- 
 duction of such individual units or groups. The product 
 of such varied process factories will usually contain ele- 
 ments which are the results of continuous processes simi- 
 lar to those of the former class of factories. Examples: 
 Bureau of Engraving and Printing of the Treasury De- 
 partment, in its miscellaneous printing; Ordnance Depart- 
 ment of the War Department; Di^dsion of Mail Equip- 
 ment of the Post-Office Department; Bureaus of Equip- 
 
PRIMER ON COST KEEPING 395 
 
 ment, Ordnance, and Steam Engineering of the Navy De- 
 partment; Bureau of Standards of the Department of Com- 
 merce and Labor; Government Printing Office. 
 
 24. Construction, which is the business of producing 
 outside of a factory a relatively large work, which, while 
 composed of lesser units, makes only one complete prod- 
 uct. It is of two general classes: 
 
 A. Continuous process construction, in which the out- 
 put, consisting of excavation, grading, or masonry, is 
 gradually and continuously produced without separation 
 into individual units, and in which the work includes one 
 or more continuous operations carried on under uniform 
 conditions. Examples: Engineer Department and Signal 
 Office of the War Department; Reclamation Service of the 
 Interior Department; Isthmian Canal Commission. 
 
 B. Varied process construction, in which severally 
 completed parts are assembled and brought into a struc- 
 ture under varying conditions and methods. Examples: 
 Supervising Architect's Office of the Treasury Department; 
 Quartermaster-General's Department of the War Depart- 
 ment; Bureaus of Yards and Docks and Construction and 
 Repair of the Navy Department. 
 
 25. Transportation, which is the business of carrying 
 persons, property, or intelligence from point to point. 
 Examples: Transport Service of the Army and Navy, Pan- 
 ama Railroad, the Postal Service, and the cable, telegraph, 
 and telephone lines of the Signal Service. As a line of 
 business it is confined to the profitable use of a plant pre- 
 viously secured and its expenses are principally for opera- 
 tion, maintenance, administration, depreciation of equip- 
 ment, interest on investment, etc. The principles and gen- 
 eral method of its accounting will apply also to those other 
 enterprises which conduct the operation and movement of 
 ships, etc., even though the purpose of such organization 
 is not that of conducting transportation, as in the cases 
 
396 PRIMER ON COST KEEPING 
 
 of war vessels and auxiliaries, revenue cutters, light-house 
 tenders, coast vessels, quartermaster's transports, etc. 
 
 26. Merchapdising, which is the business of buying 
 and selling, and which in government work includes the 
 receipt after purchase or production and the issue by sale 
 or requisition of valuable property from any of the many 
 "stores" of the government service. The most notable 
 examples are the stores of the Bureau of Supplies and 
 Accounts of the Navy Department and the Commissary 
 Department of the War Department, although every de- 
 partment and bureau and many divisions also have 
 ** stores" operating as above. 
 
 27. Investigation and Eeports, which includes the col- 
 lection of information, either in the field or office, and 
 either from original study of existing conditions or by the 
 collating of previously gathered information on file in va- 
 rious places. Examples: Bureau of Trade Relations of the 
 State Department; Office of Commissioner of Education 
 and Geological Survey of the Interior Department; Bu- 
 reaus of Animal Industry, Chemistry, Foreign Markets, 
 Plant Industry, Soils, Entomology, and Biological Survey, 
 Office of Experiment Stations and Public Roads, and For- 
 est Service of the Department of Agriculture; Bureaus of 
 Corporations, Labor, Census, Statistics, Fisheries, and 
 Standards and Coast and Geodetic Survey of the Depart- 
 ment of Commerce and Labor. 
 
 28. Accounting and Records, which as a business would 
 not stand alone, but is a necessary detail for the carrying 
 on of actual productive enterprises, and which under gov- 
 ernmental organization is often handled by practically 
 independent bodies. Examples: Bureaus of Indexes and 
 Archives, Accoimts, Rolls, and Library, of the State De- 
 partment; Offices of the Comptroller of the Treasury and 
 the several Auditors, Treasurer, and Register of the Treas- 
 ury Department. 
 
 29. Administration and Supervision, which would not 
 
PRIMER ON COST KEEPINa 397 
 
 stand alone as an independent commercial operation, but 
 is a necessary factor in the satisfactory conduct of produc- 
 tive enterprises, and which as the primary object of the 
 executive branch of the Government makes many organiza- 
 tions practically separate from those which are directly 
 productive. Examples: Diplomatic, Consular, and Pass- 
 port Bureaus, of the State Department; Offices of Comp- 
 troller of Currency, Internal Revenue, Customs, Marine- 
 Hospital and Life-Saving Services, of the Treasury De- 
 partment; the military arm of the Aiiny and Navy; Depart- 
 ment of Justice; Offices of the Commissioners of Patents, 
 Pensions, General Land, Indian Affairs, and Railroads, of 
 the Interior Department; Steamboat Inspection Service, 
 and the Bureaus of Navigation and Immigration, of the 
 Department of Commerce and Labor; and the Interstate 
 Commerce and Civil Service Commissions. 
 
 30. It appears that the work of every government 
 organization can be set down as that of one or more of the 
 foregoing seven classes. Many which have one line as 
 their principal work may have incidental operations of one 
 or more of the other classes. The last two, viz, Account- 
 ing and Records, and Administration and Supervision, are 
 general, and every organization has both as all or some 
 portion of its work, but these as classes are intended to 
 cover only those organizations which are not, or but slight- 
 ly, engaged in any one or more of the first five directly 
 productive classes. 
 
 31. Costs of production of identical articles produced 
 at different times have a value to the producer for purposes 
 of comparison. Costs of different articles produced at one 
 time are valuable for purposes of comparison in so far as 
 the articles pass through some of the same processes. In 
 general, it may be said that costs aid the producer (a) in 
 fixing selling prices on finished product; (b) in fixing buy- 
 ing prices on material and labor entering into this product; 
 
 (c) and, most important of all, in so adjusting operations 
 
398 PRIMER ON COST KEEPING 
 
 between the time of buying the material and labor and 
 that of selling the finished product that there shall be the 
 minimum of expense for such operations. 
 
 32. Cost has been defined as "loss of any kind," or 
 ** whatever is requisite to secure benefit." It must, there- 
 fore, be distinguished from disbursement, for it will also 
 include any liability if the benefit therefrom has been used, 
 even though the disbursement therefor has not been made. 
 Conversely, disbursements made for benefits not used in 
 producing the output of work are not yet a part of costs. 
 
 33. When cost keeping is adopted solely for reasons 
 of economy and organization it may be sufficient to stop 
 uniformly with any given proportion of the whole cost, 
 as with the expenditures from specific current appropria- 
 tions. Such results are comparable. When, however, it 
 is desired to have costs for purposes of competition or com- 
 parison with the market prices on like output, or with the 
 costs obtained in other government organizations, or when 
 it is necessary to fix prices for sale of the product to out- 
 side parties, or to other government organizations, a total 
 cost must be obtained, showing all expense of every kind, 
 whether paid from past or current appropriations. 
 
 34. The relation of the disbursements and liabilities 
 and other sources of benefit to the total available resources 
 on the one hand, and of these same resources to the unused 
 stores and other valuable assets and the costs of output 
 on the other, can perhaps best be shown by the diagram on 
 the following page. 
 
 From the diagram it can be seen that the total of the 
 resources available, obtained by a summation of the items 
 Nos. 1 to 6, less the total of items Nos. 7 to 9 (the inven- 
 tories available for future use) and of item No. 10 (trans- 
 fers gratis), leaves as a remainder item No. 11, which is 
 the cost of the finished product. 
 
 Items Nos. 1 and 7 refer to the fixed plant, and the 
 difference between their values represents the wear and 
 
PRIMER ON COST KEEPING 
 
 399 
 
 SOURCES OF REVENUE. 
 (Items charged to organization.). 
 
 1. Use of buildings 
 and equipment (plant) 
 obtained from former 
 appropriations. 
 
 2. Unused stores on 
 hand secured from 
 former appropriations. 
 
 3. Unfinished product 
 or results of work done 
 from former appropria- 
 tions. 
 
 4. Disbu rsements 
 from and liabilities 
 against current or fut- 
 ure appropriations for 
 the organization. 
 
 5. Disbur s e m e n t s 
 from and liabilities 
 against current or fut- 
 ure appropriations for 
 other organizations. 
 
 6. Property trans- 
 ferred and labor de- 
 tailed from others 
 "gratis." 
 
 VALUABLE OUTPUT. 
 (Items credited to organization.) 
 
 7. Buildings and 
 equipment (plant) pur- 
 chased from former 
 and current appropria- 
 tions and available for 
 future operations. 
 
 8. Unused stores on 
 hand. 
 
 Total resources avail- 
 able for and aiding in 
 the productive work of 
 the organization. 
 
 9. Unfinished product 
 or results of work on 
 hand for future opera- 
 tions. 
 
 10. Property trans- 
 ferred and labor de- 
 tailed toothers "gratis." 
 
 11. Finished product. 
 
 tear or depreciation of such plant, except in so far as it 
 has been augmented or decreased during the period under 
 review by transactions covered by items Nos. 4, 5, 6, or 10. 
 35. The expenditures for any enterprise while operated 
 appear to be for a great variety of obligations, but with 
 all their differences in details such obligations will all fall 
 into one or the other of two classes, according to their 
 character. The first class is that of stores or property, 
 bought and owned, including not only substances of a tan- 
 gible nature, visible to the eye, and capable of being han- 
 dled, but also less evident articles of commerce, such as 
 gas and power, purchased by measure. The second class 
 is that of services, which includes the benefits derived from 
 everything hired or leased, w^hether in the form of labor 
 
400 PRIMER ON COST KEEPING 
 
 of men and animals hired as individuals, or in tlie form 
 of those services which are supplied in bulk, as rentals, 
 transportation, taxes, insurance, advertising, interest, con- 
 tract or job work. 
 
 36. *' Stores," or property, as indicated in the last para- 
 graph, includes all property bought and owned. Such prop- 
 erty appears to be capable of almost unlimited subdivision 
 into the several elemental materials and the combinations 
 thereof kno^\Ti to commerce; but if viewed from the stand- 
 point of the use to which they are put, all stores or prop- 
 erty are readily divided into three classes, as follows: 
 
 A. Materials. — Any property that enters into and re- 
 mains a part of the finished product is a material. Mate- 
 rials are often referred to as raw material, but it should be 
 noted that the finished product of one operation, some- 
 times called stock, often becomes the raw material of a 
 subsequent operation, and is then designated in the latter 
 organization as stores. 
 
 B. Supplies. — All property that is used upon and wholly 
 consumed in the operations by which the finished product 
 is made. 
 
 C. Plant. — All property employed in the operations by 
 w^hich the finished product is made, but which does not 
 enter that product and is not consumed in such operations, 
 excepting as to wear and tear. Plant includes real estate 
 and improvements thereon, machinery (both fixed and mov- 
 able), tools, instruments, vehicles, animals owned, etc. 
 
 37. The distinction between materials, supplies, and 
 plant is not always an easy one to make in advance of their 
 use, though when the articles are actually employed in 
 productive operations there should be no difficulty in de- 
 ciding into which class any article should go. In some 
 instances the same substance is differently classified, ac- 
 cording to the disposition that will be made of it. Timber 
 may be sawed into lumber and become material for the 
 manufacture of furniture or it may be transforaied into 
 
PItlMEIR ON COST KEEPINa 401 
 
 plant by the enlargement of the factory or it may be cut 
 into cord wood and become supplies for use as fuel. 
 
 38. But whether it is easy or difficult in any case to 
 draw the distinction between the three classes for stores, 
 the reason for such distinction is sound. It is possible to 
 measure the quantity of materials used in each article of 
 the product, and there need be no estimate whatever. It 
 is possible to measure the quantity of supplies used upon 
 the product for a certain period, but an estimate is neces- 
 sary in distributing such expense. It is impossible to 
 measure accurately depreciation or wear and tear of plant, 
 and both the amount of such expense and its distribution 
 must rest on estimates. It is plain that most accurate re- 
 sults are obtained by so classifying expenses as to group 
 those in which the elements of uncertainty and estimate 
 are absent either at the minimum or at the maximum. 
 
 39. A loose use of the word ''cost" in connection with 
 stores makes it practically synonymous with purchase 
 price. Such a use cannot, however, be permitted in con- 
 nection with any system designed to obtain the costs of 
 production. For this purpose the cost of stores must in- 
 clude every expense incurred upon the articles when de- 
 livered for the initial productive operation. Such cost will 
 include the purchase price; buying expense, including the 
 preparation and printing of specifications, advertising, sal- 
 aries, commissions, and expenses of purchasing agents and 
 assistants; transportation; inspection and testing; labor 
 and cartage in and out of storehouses and the clerical labor 
 connected with store records and the routine of issuing 
 stores; rental of store buildings when leased or interest 
 on investment in such buildings and depreciation there- 
 upon when owned by the United States; but it is not be- 
 lieved that the element of expense involved in a possible 
 interest charge on the money invested in unused stores 
 carried for future use is of sufficient importance to warrant 
 its inclusion in governmental cost keeping. 
 
 B— VIII— 26 
 
402 PRIMER ON COST KEEPING 
 
 40. In other words, tlie prices to be charged on issued 
 stores should be sufficient to cover every expenditure or 
 liability incurred on account of such stores. When the 
 storerooms are small and those in charge have other duties 
 of a dissimilar character, it may be impracticable to in- 
 clude some of these different items and necessary to carry 
 them into some general administrative account to be pro- 
 rated therewith, but this method should be avoided when- 
 ever practicable. 
 
 41. *' Services," as already pointed out, includes all 
 those elements of value or benefit which are not bought 
 and owned, but which are hired or leased. Services may 
 conveniently be divided into two general classes, depend- 
 ing upon the manner in which they are secured, viz, indi- 
 vidually or in bulk. The former includes all man and ani- 
 mal labor secured by the hire of individuals; the latter 
 includes all services where the work is performed in whole 
 or in part by others than the one agreeing to supply the 
 labor. Examples of this class of services are job or con- 
 tract work, transportation of persons, property, or intelli- 
 gence, rental of buildings or equipment, advertising, insur- 
 ance, taxes, interest, etc. 
 
 42. The distinction between these classes is not of the 
 same importance in cost keeping as is that between the 
 classes of stores, but it has a bearing upon the subject, 
 because a large part of individual labor is directly produc- 
 tive and its benefits enter directly into and persist in the 
 finished product somewhat like materials, while most of the 
 bulk service, excepting contract work and transportation, 
 is non-productive (indirectly productive) and its results are 
 so consmned in the processes of producing the output as, 
 like supplies, to be incapable of identification. 
 
 43. The cost of personal services, or compensation of 
 employes, in the government service consists primarily of 
 the pay proper, or salaries and wages, and this element 
 is in all cases the principal and in many cases the only 
 
PRIMER ON COST KEEPING 403 
 
 cost of labor. In addition, compensation may consist ot 
 allowances for traveling expenses, mileage, quarters, sub- 
 sistence, per diem allowance in lieu of subsistence, medical 
 attendance, clothing, etc. There is a third element enter- 
 ing into the costs of labor in the government service, in 
 that of lost time, which consists of time for which pay- 
 ment is made, but in which no work is done. The total 
 varies in different branches of the government service. 
 It may include Sundays, Saturday half holidaj^s, regular 
 holidays, annual leave of absence (which may in one in- 
 stance at least be paid for when earned and not taken), 
 and sick leave. 
 
 44. The cost of animal labor will include the agreed 
 rate at which hired, the cost of forage, of stabling and 
 care, including that of hostler, farrier, and veterinarian. 
 
 45. The cost of services secured in bulk is not often 
 complicated with so many factors as is that of individual 
 service. As a rule, such cost consists of a definite number 
 of units of service at a fixed rate per unit. If an agree- 
 ment also provides for a hold-back of a given percentage 
 until the completion of all or a certain portion of the work 
 the deferred liability because of such hold-back must be 
 included to obtain a whole cost. 
 
 46. "Whole cost or total cost has been differently con- 
 sidered, some persons embracing in it the entire expense, 
 including that of marketing the product, while others have 
 put into it only that expense necessary to bring it to the 
 point where it is ready for sale or delivery. In the gov- 
 ernment service it seems better that all expense, includ- 
 ing delivery, should be reckoned in as a part of the whole 
 cost, inasmuch as the expense of marketing and delivery 
 is a relatively normal and even one over all the articles 
 of any one line of product. 
 
 47. This whole cost is uniformly divided into two parts, 
 each of which has been known by various terms, as follows: 
 
 A. Direct charges, otherwise known as prime cost or 
 
404 PRIMER ON COST KEEPING 
 
 flat cost, which consist of the expense for a given product, 
 of the material used in and remaining a part of that prod- 
 uct, and the productive labor directly applied to it. 
 
 B. Indirect charges, otherwise known as top costs, or 
 on cost, or general expenses, which uniformly include all 
 administrative expense, marketing expense, and miscel- 
 laneous charges not directly assignable to any specilic 
 article of the product. 
 
 48. The factory burden is one element of cost which 
 has been variously included under the direct or indirect 
 charges. It includes depreciation, cost of power, heat and 
 light, cartage, elevator service, watch, etc. Another ele- 
 ment of cost is that for interest, taxes, insurance, or rentals. 
 Theoretically, and practically from the commercial point 
 of view, such expenses are means for the distribution of 
 jDrofits. In the government service there is no distribution 
 of profits in the common forms of stock dividends or inter- 
 est on bonds, and there is not, therefore, the necessity for 
 treating interest as distributed profits, which should be 
 done connnercially. It and the other expenses enumerated 
 above should be charged to separate accounts and finally 
 distributed with the elements of the factory burden. As 
 a general rule, it is better to limit the direct charges, or 
 prime cost, to those elements of cost in which there is no 
 uncertainty whatever, and into which there does not enter 
 the personal equation of any sort of estimate. However, 
 it is probable that satisfactory results can be obtained by 
 making a direct charge for power and similar expenses 
 in those lines where, because of the fact that there is not 
 a great variety in the product which is produced under 
 uniform and continuous operations, it is possible to assign 
 these charges directly to the finished product. 
 
 49. In connection with this subject of the division of 
 the elements of cost into the two classes of direct charges 
 and indirect charges it must be noticed that these terms 
 recur with every gradation of an organization through the 
 
PRIMER ON COST KEEPING 405 
 
 subordinate up to the superior body. In other words, the 
 whole cost of any product of a division becomes a part of 
 the direct charges or prime cost of the bureau in which 
 the division's product of work is carried further or is com- 
 bined wijth the work of other divisions into a completed 
 product ready for the market. 
 
 50. Apportionment of indirect charges. — Various meth- 
 ods of apportioning the top cost are in use commercially. 
 The following suggestions are necessarily general in char- 
 acter, but should serve to assist in determining the proper 
 plan to be adopted: 
 
 A. Prorate the top cost to each operation upon basis of 
 the direct labor therein to the total direct labor affected 
 by such top cost when the top cost consists principally of 
 expense of supervision. 
 
 B. Prorate the top cost to each operation upon basis 
 of the direct labor and materials therein to the total direct 
 labor and material when the top cost consists of expense 
 of supervision and of procuring, storing, and issuing 
 material. 
 
 C. Prorate the top cost to each operation upon any 
 other basis, as machine hours employed in the given opera- 
 tion to total machine hours, when the machine rather than 
 the individual is the measure of such expense. 
 
 51. Before considering the general division into analy- 
 tical bookkeeping and factory cost keeping it will be well 
 to take up certain of the primary steps which are essential 
 in order to secure correct results. These steps, which are 
 common to both systems, relate to the methods for record- 
 ing elemental costs. 
 
 52. Practically every producing concern or organiza- 
 tion has its storehouses — that is, buildings or rooms to 
 which property is sent when purchased or w^hen secured 
 in any other way, where it is kept until called for, and 
 whence it is issued as needed for production purposes. The 
 organization should therefore have stores accounts or per- 
 
406 PRIMER ON COST KEEPING 
 
 jDetual inventory records, witli an account in both quanti- 
 ties and values for every article or class of articles carried 
 in such store. Such record should be in the form of a ledger 
 account, and usually a ledger card or loose-leaf ledger will 
 be found best adapted to this purpose. This record should 
 show the quantities and values of the receipts and issues. 
 
 53. The debit postings to this stores ledger will be made 
 from the approved vouchers covering purchases, when such 
 approved vouchers are always prepared immediately upon 
 receipt of articles purchased, or from commercial invoices 
 if approved vouchers are not prepared until some time 
 thereafter, and from other approved vouchers, covering 
 these other elements of expense principally for services 
 of various kinds heretofore referred to (par. 38) as form- 
 ing a part of the cost of stores. When these debit post- 
 ings are made from the receipted invoices there should be 
 a suspense account credited therewith to be debited with 
 the same amount when the voucher is approved and paid. 
 In practice it will probably develop that the purchase price 
 and transportation by freight or express are the only items 
 which can be charged directly on the accounts for the va- 
 rious items of stores and that a sufficient percentage to 
 cover the other expenses must be added to the foregoing 
 to get a total cost charge for each article of stores. When 
 the articles of stores are of greatly differing nature and 
 the expenses vary greatly, it may be necessary to classify 
 all the articles of stores and fix different percentages for 
 this loading of the several classes. 
 
 54. The credit postings to this stores ledger will be 
 made from requisitions, sometimes called material bills or 
 cards, drawn by or by direction of those in charge of the 
 various operations. Such requisitions should usually be in 
 duplicate, and should show the quantity, unit price, and 
 gross cost for the stores supplied upon it. They should 
 also show for what purpose the articles are wanted, as 
 
PRIMER ON COST KEEPINa 407 
 
 hereafter set out in discussing the two systems of cost 
 accounting. 
 
 55. When articles of property, either in the form of 
 raw material or as partly finished stock, are transferred 
 from one branch of the organization to another or returned 
 to the storehouse, the record of such transaction should 
 be made upon a requisition. For convenience, the record 
 of such transfer is often given some other designation, as 
 ** material invoice," *' property transfer," etc., but by what- 
 ever term it is known it is a requisition in the broad sense, 
 i. e., the order which secures and records the movement 
 of stores within an organization. 
 
 56. The balance shown on the stores ledger w^ill pre- 
 sumably represent the quantities on hand in the stores, 
 and, if it does, it will verifj^ the amounts of the issues as 
 credited thereon and correspondingly debited to the work 
 for which they were supplied. The labor and trouble in- 
 volved in making an actual physical inventory, however, 
 should not be permitted to excuse the omission of such 
 stock taking. The verification of receipts for which pay- 
 ment is to be made must of course be made in order to 
 certify the proper vouchers ; but receipts for which no pay- 
 ment is to be made, as of articles transferred from one 
 arsenal to another, or to or from a warship and a nasy- 
 yard, should be checked as carefully for both quantities 
 and values. 
 
 57. The verification of the stores on hand may be ac- 
 complished in any one of several wa3^s: 
 
 A. At times when because of legislation or regulation a change takes 
 
 place in the status of stores. 
 
 B. At times when it is known that the supply of certain articles is low. 
 
 C. At arbitrary dates, either for the entire stock once or twice a year, 
 
 or preferably on successive dates for dififerent classes of articles. 
 
 58. Individual labor, whether of men or animals, should 
 be recorded by some kind of time book, either solidly bound 
 or loose-leaf, or some kind of work-report slips, showing 
 the name and number of the employe, his designation, time 
 
408 PRIMER ON COST KEEPING 
 
 employed or quantity of work performed, unit for payment 
 and rate, total earnings and references to the particular 
 work upon which employed. From such time records pay- 
 rolls or service vouchers will be prepared and the time 
 records should be of such a character as to admit of the 
 entire amount of the pay-roll therefor being charged direct 
 to the product on which the work was done. 
 
 59. When the work on the products extends over long 
 periods of time, the cost of the lost time should be deter- 
 mined in whole or in part at the end of the fiscal or calendar 
 year, or on other fixed dates, and the charges made for 
 actual time lost and generally prorated on the basis of the 
 cost of the productive and non-productive labor. If, how- 
 ever, it is necessary for any reason to obtain the cost of 
 any part prior to the regular time for distribution of the 
 cost of lost time, the estimate for it may be made as here- 
 after indicated for job work. Wlien the product is in the 
 nature of job work for which charges must be made on 
 completion of the work or shortly after, a percentage should 
 be added to the cost of the productive and non-productive 
 labor chargeable to the work as an estimated equitable 
 charge for lost time. 
 
 60. Bulk services, furnished by the job, etc., will usu- 
 ally be re]Dorted in the form of a commercial invoice to 
 be thereafter vouchered and from which the proper entries 
 may be made charging the accounts for which the service 
 Avas rendered. 
 
 61. Reports of the quantities and varieties of the com- 
 pleted output are as essential as records of the stores 
 and services which have become a charge to it, and must 
 be returned with the same regularity and carefulness. In 
 continuous process factories, when operated under normal 
 and uniform conditions, the quantities of the marketable 
 product may be sufficient, upon the assumption that the 
 quantity of partly finished stock at the end of the period 
 was the same as the quantity at the beginning of said pe- 
 
PRIMER ON COST KEEPING 409 
 
 riod. If the conditions of operations are changing greatly, 
 or if the product is the output of varied process factories, 
 the reports must show the entire accomplishment both in 
 completed and partly completed stock. 
 
 62. Having discussed the methods applicable to making 
 a sufficient record of the elemental costs and the quantity 
 of product, it now remains to describe the two systems 
 for combining the records of such elemental costs. 
 
 63. The productive work of practically every produc- 
 ing concern is done through a series of operations. It is 
 a difficult task to group these into general classes. Pos- 
 sibly a fairly comprehensive and representative grouping 
 would be as follows: Stores, incidental operations, produc- 
 tive operations, marketing operations, administration. An 
 example from the government service is found in the Bu- 
 reau of Engraving and Printing. Limited to its produc- 
 tion of postage stamps its operations when grouped ac- 
 cording to the foregoing classification are about as follows : 
 
 Stores — Materials, supplies, and plant. 
 
 Incidental operations — Engraving, power, care of building. 
 
 Productive operations — Wetting, printing, gumming, perforating, cut- 
 ting, inspecting. 
 
 Marketing operations — Packing, carting. 
 
 Administration — Superintendence, ordering, accounting, watch and 
 messenger service. 
 
 64. A class of organizations to which analytical book- 
 keeping is especially adapted as a system for determining 
 the costs of various portions of the work is that of the 
 scientific or investigating bureaus. The work of such or- 
 ganizations will often occasion as necessary component 
 parts thereof the following practically independent opera- 
 tions : 
 
 Stores — Necessary supplies. 
 
 Incidental operations — Mailing requests for information. 
 
 Productive operations — Field investigations, office investigations, 
 
 laboratory work, computing, editing. 
 Marketing operations — Printing, packing, shipping. 
 Administration — Superintendence, clerical, messenger. 
 
 65. It has already been stated (par. 20) that when the 
 
410 PRIMER ON COST KEEPING 
 
 product is measurable in bulk and not usually divided into 
 separate units, a system of analytical bookkeeping is suffi- 
 cient if an analysis of the expenses has been made accord- 
 ing to the purpose of the expenditures. Such analysis 
 should be according to the immediate object or purpose 
 to be accomplished rather than according to the nature 
 of the particular expenditure. The latter classification is 
 also valuable in deteiinining the elements of cost, but the 
 former classification, showing for what operation the ex- 
 penditure was incurred is the more important. Ledger 
 headings, or controlling accounts, should be provided for 
 each of the general operations and subdivided as far as 
 experience shows is profitable. For these accounts, short, 
 appropriate titles may be selected, or a system of symbols, 
 using letters or figures, or both, may be adopted. The for- 
 mer is probably surer in accuracy of the record work; the 
 latter is the simpler in the amount of such work, and if 
 handled carefully can be profitably employed. 
 
 66. The distinguishing feature of factory cost keeping 
 is that the individual costs of the various items of prod- 
 uct are not obtained from the general ledger, but are col- 
 lated in some sort of cost ledger, the total charges to which 
 should equal the totals of the charges to the several depart- 
 mental, operating, or controlling accounts in the general 
 ledger. An analysis of the operations of the business and 
 a separation into classes is necessary, as indicated for an- 
 alytical bookkeeping, and the expenses for each should be 
 charged to its appropriate account. But when the product 
 is varied in nature and requires at times only one opera- 
 tion, at times two, and again all, or nearly all, it becomes 
 impracticable to secure accurate costs by any system of 
 prorating. It then becomes necessary to open an account 
 in the cost ledger to w^hich shall be charged all expenses 
 incurred for that particular item of product. 
 
 67. The basis for the factory cost-keeping system is 
 the production order, otherwise styled a job order, shop 
 
PRIMER ON COST KEEPINa 411 
 
 order, work slip, fabrication order, etc. It serves several 
 purposes, as follows: 
 
 A. It alone is the means employed to initiate work upon a particular 
 
 unit or group of units of output. 
 
 B. It authorizes the heads of departments of the organization to 
 
 secure necessary quantities of stores, which, are charged thereto, 
 and makes proper record of disposition of the services of em- 
 ployes. 
 
 C. It bears a number by which all raw material and partly manu- 
 
 factured stock therefor is known. 
 
 D. It, or some accompanying work report or subproduction order, 
 
 collects the quantities of services applied to the production of the 
 output. 
 
 E. It becomes a part of the loose-leaf cost ledger or is the journal from 
 
 which postings are made to the cost ledger if kept in any other 
 way. 
 
 68. This is actually the title of an account in the general 
 ledger covering certain general classes of expense, usually 
 more or less uniform, within different periods of like dura- 
 tion. Such expenses are usually those for the incidental 
 operations necessary to the progress of the directly produc- 
 tive operations. The accounts necessary will often be those 
 for enlargement or betterment of plant, increase of equip- 
 ment, renewals of plant or equipment, power, heating, light- 
 ing, care of building, etc. 
 
 69. Costs to a contractor on private and corporate work 
 are now frequently determined in the interests of the party 
 for whom the work is performed. Construction work under 
 the Government is generally done by contract. In such 
 case it is desirable, as a rule, to determine two costs for 
 the work — first, to the Government, and second, to the 
 contractor. The reasons for the determination of such 
 costs are to furnish information in regard to (A) the profits 
 or losses of the contractor; (B) the probable ability of the 
 contractor to complete his contract; and (C) unit costs 
 which are of value in determining estimates of cost and 
 reasonableness of bids for future similar work. 
 
 .70. The methods employed in collecting contractors' 
 costs are those which pertain to ordinary construction 
 work with such variations as may be necessary in each 
 
412 PRIMER ON COST KEEPING 
 
 case. Statistics of productive labor, materials, and sup- 
 plies are collected by inspectors. Unit prices pertaining 
 thereto may be assumed at market rates, or, if the contract 
 requires it, as is frequently the case, the contractor may 
 be requested to furnish these and other data which cannot 
 be readily collected by inspectors. It may be necessary 
 and desirable to estimate many of the details of such costs. 
 For example, in the case of horses owned by the contractor 
 it is frequently more satisfactory to reckon the cost of 
 their work on the basis of current rates for hiring animals 
 rather than to determine the cost of maintaining them and 
 to estimate depreciation, etc. 
 
 71. Since the details of the collection and estimating 
 of contractors' costs vary with conditions, they should be 
 fully described in each case. The costs as reported should 
 also be divided into two parts, (A) those which are deter- 
 mined accurately and (B) those which are estimated. The 
 accompanying explanations should be so complete that 
 other persons using the data may be able to judge their 
 value and the limits of their accuracy. 
 
 72. Periodical Literature. — In the July, 1904, issue of 
 the Engineering Magazine (vol. xxvii, p. 643) there was 
 printed "An Index of the Literature of Industrial En- 
 gineering," containing references to over eighty articles 
 on cost keeping; and also lists of articles on "Deprecia- 
 tion," "Wage systems," and "General management." 
 Many articles of value have appeared since that date in 
 various trade and accounting journals, among which spe- 
 cial attention should be called to three papers on "Cost 
 keeping on contract work," by A. W. Buel, in the March, 
 May, and June, 1905, issues of the Engineering Magazine 
 (vols, xxviii and xxix). It is to be hoped that such indexes 
 of the periodical literature on the subject may be pub- 
 lished regularly. 
 
 73. Permanent Literature. — There follows a list of 
 books relating to cost keeping and kindred matters, which 
 
PRIMER ON COST KEEPING 413 
 
 is believed to be a fairly complete bibliography of the 
 subject: 
 
 74. Co^ Keeping and Business Organization — 
 
 On the Economy of Machinery and Manufactures. Charles Babbage, 
 
 A. M. Charles Knight, London. 1832. 
 Cost of Manufactures and the Administration of Workshops. Capt. 
 Henry Metcalf. Ordnance Dept., U. S. A. John Wiley & Sons, 
 New York. 1885. 
 
 Factory Accounts. Emile Garcke and J. M. Fells. Crosby Lockwood & 
 
 Sons, London. 1887. 
 Cost Accounts. Walter Strachan, Inc. Acct. Stevens & Haynes, 
 London. 1893. 
 
 Commercial Organization of Factories. J. Slater Lewis. E, & F. N. 
 Spon, London. 1896. 
 
 Commercial Management of Engineering Works. Francis G. Burton. 
 Scientific Publishing Co., Manchester. 1898. 
 
 Management of Engineering Workshops. Arthur H. Barker. Tech- 
 nical Publishing Company, Manchester. 1899. 
 
 Engineering Estimates and Cost Accounts. Francis G. Burton. Tech- 
 nical Publishing Co., Manchester. 1900. 
 
 Complete Cost Keeper. Horace Lucian Arnold. Engineering Maga- 
 zine Co. 1900. 
 
 Cost Accounts of an Engineer and Iron Founder. J. W. Best, F. C. A. 
 Gee & Co., London. 1900. 
 
 Cost Accounts. C. A. Millener. Hunter-Rose Co., Toronto. 1901. 
 
 Cost of Production. Charles J. Watts. Shaw- Walker Co., Muskegon. 
 1902. 
 
 Engineers and Shipbuilders' Accounts. Francis G. Burton. Gee & Co., 
 London. 1902. 
 
 Contract Accounts. Everett Audit Co. Published for McArthur Bros. 
 Co., Chicago. 1902. 
 
 Factory Manager and Accountant. Horace Lucian Arnold. Engineer- 
 ing Magazine Co., New York. 1903. 
 
 Manufacturers' Accounts. W. C. Eddis, F. C. A., and William B. 
 Tindall, A. C. A. Published by the Authors, Toronto. 1904. 
 
 Manufacturing Cost. H. L. C. Hall. Bookkeeper Publishing Co., 
 Detroit. 1904. 
 
 Workshop Costs for Engineers and Manufacturers. Sinclair Pearn 
 and Frank Pearn. 1904. 
 
 Builders' Accounts. John Arthur Walbank. Gee & Co., London. 1904. 
 
 Cost Accounts. L. Whittem-Hawkins. Accountancy Publishing Co., 
 New York. 1905. 
 
 Business Features of Engineering Practice. A. C. Humphreys, M. E. 
 Stevens Institute of Technology. Hoboken. 1905. 
 
 Cost of Production. Bert Clifford Bean. System Co., Chicago. 1905. 
 
 Organizing a Factory. Clinton E. Woods. System Co., Chicago. 1905, 
 
 75. Depreciation — < 
 
 Depreciation of Factories and Their Valuation. Ewing Matheson. E. 
 
 & F. N. Spon, London. 1884. 
 Depreciation Reserves and Reserve Funds. Lawrence R. Dicksee. 
 
 Gee & Co., London. 1903. 
 
414 PRIMER ON COST KEEPING 
 
 76. Wage Systems- 
 Profit-sharing Between Capital and Labor. Sedley Taylor, M. K. 
 
 Kegan Paul, Trench & Co., London. 1884. 
 Profit-Sharing Between Employer and Employe. Nicholas Paine Gil- 
 man. Houghton, Mifflin & Co., New York and Boston. 1889. 
 Bargain Theory of Wages. Professor Davidson. Rutgers College, 
 New Brunswick. 1898. 
 
SOME PRINCIPLES OF COST ACCOUNTINa* 
 
 BY ERNEST RECKITT, C. P. A. 
 
 In the choice of a subject, I have been influenced not 
 only by the growing demand on the part of manufacturers 
 for intelligent men in their cost departments, but also by 
 the necessity of a greater appreciation of correct principles 
 in the application of "costs." Many business men have 
 unfortimately lost faith in the benefits to be derived from 
 maintaining a cost department, and it has been my expe- 
 rience that usually in such cases the failure of the system 
 has been due to illogical methods and a failure to bring 
 the information which should be prepared by this depart- 
 ment in concise form before the superintendent and general 
 manager. Thus, it is no uncommon thing to find the total 
 factory expense apportioned on the basis of the prime cost 
 of the complete machines, instead of determining the fac- 
 tory expense of each department and apportioning same 
 on the parts manufactured by that department. Where 
 the factory output consists of a variety of machines and 
 where the factory expense of some departments is much 
 heavier than in others, it will be readily seen that the latter 
 plan is the only one which could give accurate results. 
 
 Before entering upon the discussion of what constitutes 
 factory or manufacturing cost, it is advisable ^ that you 
 should have a clear understanding of certain of its fea- 
 tures, and the first that I will call your attention to is that 
 of Eental. 
 
 The actual owTiership of a plant, that is, the real estate, 
 buildings, boilers and engines, is not essential in order to 
 manufacture. Not only can plants be rented, but the power, 
 light and heat can be purchased from outside vSources. 
 
 Reproduced from Journal of Accountancy. 
 
 *15 
 
416 ERNEST RECKITT 
 
 Therefore, if a manufacturer decides to invest the whole 
 or part of his surplus capital in real estate, plant, etc., and 
 erect his own power, light and heat plant, he is actually 
 engaging in other enterprises not absolutely essential to the 
 manufacture of the articles he sells. As an illustration, we 
 may suppose a concern, that for the sake of convenience 
 we will call the Smith Mfg. Co., having a capital of $150,- 
 000.00, whose net profits amount to $30,000.00, and who 
 pay an annual rental of $9,000.00 to a Mr. Brown on prop- 
 erty valued at $100,000.00. It is fair to assume that Mr. 
 Brown pays out in taxes, insurance and repairs the sum 
 of, we will say, $2,000.00 a year and makes a reserve for 
 depreciation at the rate of 2 per cent per annum or $2,000.- 
 00, leaving a net available profit to himself of $5,000.00, or 
 5 per cent on his investment of $100,000.00. 
 
 The question arises whether it would be a good invest- 
 ment for the Smith Mfg. Co. to own its own real estate 
 and plant, or whether it would be wiser to continue to 
 rent. If they purchase the premises for $100,000.00 out of 
 their earnings, they will then have an invested capital of 
 $250,000.00, producing profits amounting to $35,000.00 per 
 annum or 14 per cent on their invested capital, while prior 
 to that time their profits amounted to 20 per cent on a 
 capital of $150,000.00. Hence it will be seen that it would 
 be folly to sink $100,000.00 in the purchase of a plant, 
 unless their profits produced more money than they could 
 advantageously use in increasing their business, or unless 
 it was considered that the purchase of the plant was a 
 good conservative investment. But the $100,000.00 so in- 
 vested could have been used to purchase bonds or. other 
 safe securities and their regular and legitimate business 
 would have gone on just the same. It is, therefore clear, 
 that if a company, private firm or individual owns its own 
 plant, it should consider it as a matter quite outside of 
 the investment in the manufacturing business, and should 
 charge the latter with rent, so that the true percentage 
 
COST ACCOUNTINa 417 
 
 of profit on the articles manufactured can be arrived at. 
 Furthermore, in nearly all factories it is found necessary, 
 to establish departments, one department manufacturing 
 one part of the mechanism or articles dealt in, while an- 
 other department carries out other operations. Each de- 
 partment should be charged with its proper proportion of 
 rent, and this same plan is sometimes carried still further 
 by charging each machine with its proportion of rental 
 charges. Thus the cost of operating a large steam hammer 
 in respect to space occupied would be very much larger 
 than that of a small drill used in conjunction with special 
 tools. 
 
 To determine the rental chargeable by a concern own- 
 ing its own real estate and plant, it is necessary to open in 
 the general ledger an account to be termed Real Estate 
 Operating Account, and to charge this account with the 
 following items : 
 
 (1) Eeal Estate Taxes, 
 
 (2) Fire Insurance on Buildings, 
 
 (3) Repairs to Buildings, 
 
 (4) Depreciation on Buildings, 
 
 (5) Interest at 5 per cent or 6 per cent per annum on 
 the amount invested in Real Estate and Buildings, 
 
 — and to credit this account and charge the various depart- 
 ments each with its proportionate amount which in the 
 aggregate will equal the total debits. To make this clearer 
 I have drawn up the following statement as illustrating 
 a Real Estate Operating Account: 
 
 DEBITS CREDITS 
 
 Real estate taxes $ 500.00 Distribution to Departments: 
 
 Fire insurance 1,000.00 Chargeable to Dept. A $5,000.00 
 
 Repairs 500.00 Chargeable to Dept. B 1,500.00 
 
 Depreciation 2,000.00 Chargeable to Dept. C 3,500.00 
 
 Interest at 5% on investment 5,000.00 Chargeable to power plant. . . 500.00 
 
 Chargeable to administration 
 
 $9,000.00 expense for office bldg 500.00 
 
 $9,000.00 
 
 The charge appearing in the above account representing 
 
 B— VIII— 27 
 
418 ERNEST RECKITT 
 
 interest at 5 per cent on the investment in real estate and 
 buildings should be credited to a real estate profit and loss 
 account. 
 
 The next item of factory cost that requires comment 
 is depreciation. It is not my object to treat fully of de- 
 preciation, as to do so would demand a lengthy paper on 
 this subject alone, but merely to point out its importance. 
 Depreciation may be said to be the gradual diminution in 
 value, due to wear and tear, obsolescence, or other causes, 
 of what are termed fixed assets, such as leases, patents, 
 buildings, machinery, etc. I believe it was John Mann, 
 C. A., of Glasgow, who said that the application of the 
 principles involved by the term depreciation is merely an 
 acknowledgement of that universal law that nothing around 
 us is eternal, and that sooner or later everything must suc- 
 cumb to the destructive forces of the elements or to change 
 of conditions. 
 
 Closely allied to depreciation is the item of extraordi- 
 nary repairs. We will suppose that a factory has been 
 built and new boilers, engines and machinery installed. It 
 is reasonable to expect that during the first year the re- 
 pairs will be exceedingly light; during the second year, 
 somewhat heavier; during the third year, still greater; until 
 it may be the fourth year and after, before the repairs 
 to the machinery appear to cost approximately the samei 
 each year. Yet it is only fair that the first and second 
 years' business should be chargeable with a part of the 
 repairs made during succeeding j^ears, as it is the wear 
 and tear of these years that has largely been instrumental 
 in causing the outlay in the third and fourth years. For 
 this reason it is proper and conservative to charge the first 
 and second years with an estimated amount to cover re- 
 pairs to be made in the future and to credit a reserve ac- 
 count which in later years may be used to lessen the charge 
 to profit and loss for this form of outlay. 
 
 While it is perhaps scarcely within the scope of this 
 
COST ACCOUNTING 419 
 
 article, I would state that no factory accounts are complete 
 without a system, preferably a card system, for recording 
 all the machinery in stock. There should be a card for 
 each machine, filed in the case in such a manner that its 
 location in the factory can be immediately determined. If 
 the machine be moved from one room to another the card 
 is similarly changed to another sub-division in the case. 
 Each machine should be numbered, the corresponding num- 
 ber being entered on the card, in addition to which the card 
 should show: 
 
 (1) Description of machine. 
 
 '(2) Date of Purchase. 
 
 [(3) From Whom. 
 
 i(4) Original Cost. 
 
 ,(5) Freight Paid and Cost of Installment. 
 
 '(6)' Amount of Depreciation Written Off Each Year. 
 
 (7) Date Scrapped. 
 On the other side, the card should record cost of all repairs 
 made, so that a complete history of each machine can be 
 obtained by the factory superintendent. When the repairs 
 to the machine pass beyond a certain point, this fact can 
 be ascertained, and a decision reached as to whether or 
 not it would be cheaper to send the machine to the scrap 
 heap. 
 
 Having dealt with some features of factory costs which 
 require more careful study than such items as cost of ma- 
 terial and labor, we may safely pass on to the subject of 
 what constitutes factory cost and of other definitions of 
 terms used in this connection. 
 
 The terminology of this subject is in a very chaotic 
 condition, this being due largely to the fact that the science 
 of factory costs is hardly out of its swaddling clothes. 
 Though many systems of factory costs have been brought 
 up to a high state of perfection, they are isolated, and 
 though many valuable articles as well as books have been 
 written, each person has pursued this investigation along 
 
420 
 
 ERNEST RECKITT 
 
 his own special lines and there does not appear to have ever 
 been any convention of those interested in this subject, so 
 that a nomenclature and definition of terms which would be 
 accepted by all could be settled for all time. Thus, that 
 part of the cost of manufacture other than cost of material 
 and direct labor is known by a multitude of terms, such as, 
 Factory Expense, Factory Burden, Overhead Charges, Gen- 
 eral Expense, Establishment Charges and ''On Cost." To 
 the student this is at first confusing, until he realizes that 
 they all mean one and the same thing. Even the term 
 **cost" is frequently used in a very off-hand manner, some 
 people understanding by this term the cost of manufacture 
 and not total cost, including the cost of selling and admin- 
 istration expenses, while others again might understand it 
 to be the cost to the purchaser, which is equivalent to the 
 selling price. 
 
 Webster's Dictionary says that the word ''cost" means 
 "The amount paid for anything; a charge; an expense"; 
 but it will be advisable that a clearer understanding of 
 what cost represents should be had before going any fur- 
 ther. It is important that we should know what are the 
 factors that enter into the cost of any manufactured ar- 
 ticle. In the following diagram I have attempted to show 
 these factors. 
 
 'Factory Cost ' 
 
 Cost 
 
 "Prime Cost 
 
 Factory Expense 
 
 Material 
 
 Direct Labor 
 [Direct Factory Expense 
 
 .Selling Cost 
 
 rDistribution 
 
 LAdministratioii 
 
 1 
 
 Indirect Factory Expense 
 
 As I do not propose in this article to enter into any dis- 
 cussion of the cost of selling, you will note that the sub- 
 
COST ACCOUNTING 421 
 
 ject to be dealt with is factory costs, or, as it is often 
 termed, cost of manufacture. This division of the sub- 
 ject is a rational one, for there is a distinct line of demar- 
 cation between the cost up to the point of placing the fin- 
 ished product in the stockroom ready for shipment, and 
 which involves all items entering into cost of manufac- 
 ture; and the cost of selUng, which includes salaries and 
 commissions to salesmen, traveling expenses of salesmen, 
 cost of packing and shipping goods from stockroom or 
 warehouse, cost of administration in salaries to officers 
 and clerical staff in recording sales and in collection of 
 accounts and other office expenses incidental thereto. 
 
 You cannot separate, however, prime cost from fac- 
 tory expense, for in a factory there cannot be such a thing 
 as prime cost without factory expense, and the line of 
 demarcation between the two is difficult to distinguish, 
 and can only be carried out after a thorough knowledge of 
 the fundamental principles underlying each. 
 
 Generally speaking, we may define prime cost as that 
 portion of the cost of any part or whole of a mechanism 
 or material manufactured, that can be absolutely known 
 as chargeable to same without having to resort to estim- 
 ates based upon percentages or any other more or less 
 arbitrary method. Thus, .in the simplest system of fac- 
 tory cost, the cost of two ingredients of prime cost is al- 
 ways ascertainable, namely, cost of material and direct 
 labor. Direct labor is the term used to designate the la- 
 bor actually spent carrying out some operation on the 
 part manufactured, while the term indirect labor repre- 
 sents the labor which it is impossible to charge up against 
 any one part, such as wages paid to foremen, inspectors, 
 roustabouts, etc. 
 
 It follows that the most accurate costs are obtainable 
 when most of the cost of manufacture can be classified un- 
 der the heading of prime cost. But higher civilization 
 and the wonderful development of machinery as a substi- 
 
422 ERNEST RECKITT 
 
 tute for human labor is making the proportion of cost of 
 manufacture chargeable to prime cost become smaller and 
 smaller with a corresponding increase in factory expense. 
 As an illustration of this fact, when Robinson Crusoe 
 hewed down the tree from which he made his canoe, the 
 cost of such a boat was all direct labor, and not even cost 
 of material could enter into the calculation. Under a 
 somewhat higher state of civilization the order for a boat 
 merely necessitated the shipwright's purchasing some 
 sound oak lumber from a neighboring farmer and with 
 his own hands building the boat. In this last case you 
 have cost of material and direct labor. The introduction 
 of machinery has changed those conditions, and what was 
 once carried out by human hands is now largely accom- 
 plished by machinery, so that the prime cost of an article is 
 apparently much less when machinery plays a part than 
 when it is only partially used or not at all. 
 
 It is, therefore, clear that machinery is but another 
 form of labor, and that the cost of machine labor, or what 
 may be termed ''machine cost," is a part of prime cost, if 
 it can be accurately determined. I have gone somewhat 
 fully into this phase of the question to show how fine a, di- 
 viding line exists between prime cost and factory ex- 
 pense; that one cannot exist without the other, and that 
 the division between the two is in reality arbitrary. 
 
 In a factory where there is more than one department, 
 it is customary to charge each department with its par- 
 ticular expenses in so far as these can be arrived at, and 
 in this manner to calculate more accurately the cost of 
 each particular part. When factory expense can be thus 
 accurately distributed between departments, it is termed 
 direct factory expense, and those expenses which it is im- 
 possible to distribute as between departments are known 
 as indirect factory expense. Here again we find it diffi- 
 cult to make any exact dividing line as between direct and 
 indirect factory expense; for what in one plant may be 
 
COST ACCOUNTING 423 
 
 classified as direct, becomes indirect factory expense at 
 another plant. For instance, one plant may possess me- 
 ters or other instruments for measuring the electricity or 
 other motive power used in each department, while an- 
 other plant may contain no such gauges, and in this latter 
 case the cost of power would have to be classified as in- 
 direct factory expense. 
 
 From the above remarks I now call your attention to 
 the following table showing the various items of costs 
 entering into the total cost of manufacture, arranging 
 them as far as possible under their usual classifications; 
 but it must be borne in mind that in so far as the distribu- 
 tions under direct and indirect factory expense are con- 
 cerned, they are by no means final: 
 
 Prime Cost: 
 
 Material. 
 Freight In. 
 Handling Charges. 
 Direct Labor. 
 Royalties. 
 
 Direct Factory Expense: 
 
 Rent. 
 
 Abandoned Tools. 
 
 Defective Parts. 
 
 Supplies. 
 
 Part Indirect or Unproductive Labor. 
 
 Repairs and Replacements. 
 
 Depreciation. 
 
 Insurance. 
 
 Taxes. 
 
 Power ^ 
 
 Light Hi amount to each department can be ascertamed. 
 
 Heat J 
 
 Indirect Factory Expense: 
 
 Salary of Superintendent and part Indirect Labor. 
 
 Shrinkage in Inventories. ' 
 
 Casualty Insurance. 
 
 Salaries and Supplies, Cost Dept. 
 
 Salaries and Supplies. Purchasing Dept. 
 
 Salaries and Supplies, Stock Dept. 
 
 Salaries and Supplies, Drafting Dept. 
 
 Power ") 
 
 Light f-If no separation between depattments is possible. 
 
 Heat J 
 
 In arriving at the cost of power, light and heat, where 
 all of such items are manufactured by the concern operat- 
 
424 ERNEST RECKITT 
 
 ing tlie plant, it is, as stated heretofore, customary to con- 
 sider the power plant as a separate institution or depart- 
 ment, the various items of cost entering into same being 
 shown in the following table: 
 
 Power Plant: 
 
 Fuel. 
 
 Supplies. 
 
 Labor. 
 
 Rent. 
 
 Repairs and Replacements. 
 
 Depreciation. 
 
 Taxes and Insurance. 
 
 Upon ascertaining the cost of the power plant, such 
 cost must be prorated over the other depaiitments in pro- 
 portion to the amount of power, heat and light supplied. 
 
 Having discussed the various items of cost and their 
 nature, the next step is a consideration of how to apply a 
 knowledge of the amount in the aggregate of such costs 
 to a determination of the cost of each and every part man- 
 ufactured. 
 
 Taking up first prime cost, it does not require any 
 large amount of experience to see that the cost of the ma- 
 terial is based upon an actual measurement of the mate- 
 rial used and that the direct labor can also be readily com- 
 puted from the daily reports of employes. Where wages 
 are paid by piece work, it will be seen that this can easily 
 be ascertained by adding together the cost of each oper- 
 ation; and where employes are paid upon a per diem 
 basis, the average cost per operation is obtained from the 
 daily reports which show the number of good parts oper- 
 ated and manufactured during the course of several days. 
 
 Factory expenses, whether direct or indirect, cannot 
 be calculated in this exact manner and various methods 
 are in use for prorating these expenses, each of which 
 has its advantages in special cases. These methods are: 
 
 1. A rate varying with quantity of material handled, 
 
 or what may be called the *'Unit System.'^ 
 
 2. Percentage on prime cost. 
 
COST ACCOUNTING 425 
 
 3. Percentage on amount of direct labor in money 
 
 values. 
 
 4. Percentage on time spent by direct labor. 
 
 5. The method known as machine cost. 
 
 Quoting from the article on this subject by John Mann, 
 Jr., Chartered Accountant, of Glasgow, appearing in the 
 Encyclopedia of Accounting: 
 
 All these methods should bring out the same total result, that is, taking 
 the work in mass, but they vary much in accuracy when applied to depart- 
 ments or pieces of work. Extraordinary differences emerge under the various 
 methods, and as costing becomes more minute and exact the selection of the 
 best method of distributing expense is of great importance. The opinions ex- 
 pressed as to the merits of these systems are conflicting. The fact is that each 
 is to some extent a compromise, so that in making a selection the peculiarities 
 and special circumstances of each industry must be remembered. It may 
 be best to adopt different principles in different classes of expenses by dif- 
 ferent methods. 
 
 To those of you who desire to make a special study of 
 this subject I would advise a careful perusal of the bal- 
 ance of this article in the Encyclopedia of Accounting. I 
 will content myself with a few comments upon each meth- 
 od. 
 
 1. The Unit System. — This method is used to ad- 
 vantage in any plant or business where the product is 
 uniform, such as breweries, coal mines, flour mills, when 
 the commodity is sold on a unit basis. Thus the factorj^ 
 expense is divided by the output so as to arrive at the fac- 
 tory expense per barrel or per ton. It will, however, be 
 seen that in case of a factory turning out several grades 
 of the same article, such as a flour mill, even the above 
 method of distributing could not be used without taking 
 into consideration some other factor, which would charge 
 a greater proportion of the factory expense to a higher 
 grade than to the lower grade. 
 
 2. Percentage on Prime Cost. — This method is not to 
 be recommended except in small concerns where an elab- 
 orate cost system is not practicable. It is what might be 
 termed a rough and ready method, and is one which is 
 commonly used in small establishments, as, for instance, 
 
426 ERNEST RECKITT 
 
 a tailor's shop, where it is customary in figuring the ex- 
 pense of making a suit of clothes to add to the cost of the 
 cloth used the amount of labor necessary for making same, 
 to the total of which is added a percentage of the prime 
 cost to cover other expenses of the business. In this way 
 it will be seen that a man ordering a more expensive cloth 
 mil be really paying more than his share of the running 
 expenses of the business compared with the man who or- 
 ders cloth of a cheaper texture. This method of distribut- 
 ing factory expense is, however, very commonly used by 
 larger concerns and erroneously so, as it leads to many in- 
 accuracies in obtaining accurate costs. 
 
 As another illustration we may take a concern dealing 
 in silverware and allied goods. In the particular case in 
 point, not only does the concern manufacture solid silver 
 spoons but also silver-plated ware. The cost of the ma- 
 terial in one case is very much higher than in the other, 
 and to prorate the factory expenses on the basis of prime 
 cost will result in two evils; fii^t, the cost of the solid sil- 
 verware reported by the cost department will be consider- 
 ably higher than it actually is; second, the reported cost 
 of the silver-plated ware will be considerably less than it 
 actually is. If the selling prices were based upon such 
 inaccurate costs, it would be found that the selling prices 
 of solid silverware were higher than those of their com- 
 petitors, with the result that they would lose orders; 
 while in the case of the silver-plated goods, their prices 
 would be lower than those of their competitors, with the 
 probable result that they would be inundated with orders, 
 but these orders would bring in little or no profit to the 
 concern. 
 
 3. Percentage on Direct Labor. — In many concerns 
 this method is popular and good, but it is not applicable in 
 a concern which manufactures both large and small goods, 
 involving in one case the use of heavy machinery and in 
 the other a number of small machines. Otherwise, it may 
 
COST ACCOUNTING 427 
 
 be used to considerable advantage, as the cost of direct la- 
 bor in any part or mechanism can always be known, and 
 the proportion that exists between the total factory ex- 
 pense and the total direct or productive labor is readily 
 ascertainable. It is not, however, an advisable method, 
 unless conditions of labor remain fairly normal, and in cas- 
 es where automatic machinery is largely used this method 
 could not be adopted, inasmuch as such machinery is tak- 
 ing the place of labor. 
 
 4. Percentage of Time Spent by Direqt Law. — Of all 
 the methods of distributing factory expense this is prob- 
 ably the most scientific. The element of time enters very 
 largely into most of the fixed expenses of a business; 
 therefore, it would appear that factory expenses should be 
 distributed on the basis of the length of time that it re- 
 quires any part of a product or the product itself to be 
 manufactured. Under this plan it will be seen that an em- 
 ploye who loafs at his work is increasing in the same pro- 
 portion the amount of factory expense chargeable to the 
 cost of the product. This method, therefore, brings out 
 very clearly the great importance of speed in attaining re- 
 sults. A case to illustrate this point would be that of a 
 large office building which is to be constructed. A few 
 years ago it was not an uncommon thing to find that it 
 took two years to erect such a building; now it is the ex- 
 ception. We see a whole building torn down, foundations 
 laid, the steel construction erected and enclosed with ma- 
 sonry and brick, and the whole of the inside of the build- 
 ing completed within twelve months. The cause of this 
 great activity is to be found in the fact that the interest 
 on the money lying idle in the first case is twice as large 
 as in the second case, and a further paving by securing the 
 erection of the building in one year is effected b}^ the fact 
 that one year after starting its erection the building is oc- 
 cupied and earning money. The value of the interest thus 
 saved is such an important factor that it pays to expend 
 
428 ERNEST RECKITT 
 
 large sums of money for overtime to mechanics and to in- 
 cur other special expenses incident to obtaining speed. 
 The same principle holds equally good in factories where 
 the same amount of interest on investment and many of 
 the factory expenses go on the same, whether the factory 
 be running full blast or closed down. 
 
 5. Machine Costs. — In this article I have frequently al- 
 luded to the fact that machinery has to a very large extent 
 taken the place of what prior to the introduction of ma- 
 chinery would have been direct labor. I have also stated 
 that the most accurate costs can be obtained where the 
 predominance of the cost was in the cost of material and 
 direct labor, leaving only a small amount of factory ex- 
 pense to be distributed. It follows, as machinery is only 
 another form of labor, that if we could by any process of 
 figuring compute the cost of the machines in the same 
 manner as we can direct labor, we should then arrive at a 
 more accurate method of determining costs. This is just 
 what the method known as *' machine costs" attempts to 
 accomplish; but, of course, it is only with respect to ma- 
 chinery that carries out a distinct operation on a part man- 
 ufactured that this method can be used. Thus, traveling 
 cranes, shafting, pulleys, etc., cannot come under this 
 classification. The factors that enter into machine costs 
 may vary in different establishments, but in any case they 
 will include the following: 
 
 1. Interest on Investmen^t. 
 
 2. Depreciation. 
 
 3. Repairs. 
 
 To these factors others may be added, and should be add- 
 ed if they are obtainable, such as, rent of floor space and 
 amount of power supplied. On arriving at the cost per an- 
 num of each of the above factors in respect to a machine, 
 the normal number of hours that the machine will work 
 during the course of a year is estimated and the total num- 
 ber of hours during the year is then divided into the total 
 
COST ACCOUNTING 429 
 
 cost per annum, and in this way we arrive at what may 
 be termed machine cost per hour. By adding to this the 
 cost per hour of direct labor for the man employed to op- 
 erate such machine or machines we obtain what is termed 
 the ''machine rate." It will thus be seen that in calculat- 
 ing the cost of any operation a great deal of guesswork in 
 respect to certain elements of factory cost are thereby 
 eliminated and a more accurate knowledge is obtained of 
 the cost of each operation. 
 
SECTION F 
 
 PEOPLE EX REL. MANHATTAN RAILWAY CO. V. 
 
 BARKER. 
 
 [Court of Appeals of New York. June, 1895. 146 New York, 304.] ^ 
 
 Cross-appeals from order of the General Term of the 
 Supreme Coui-t in the first judicial department, made 
 April 11, 1895, which reversed an order of Special Term 
 vacating and setting aside an assessment of the relator's 
 capital stock for taxation as personal property for the 
 year 1894, and affirmed the proceedings of the commis- 
 sioner of taxes and assessments. 
 
 The facts, so far as material, are stated in the opinion. 
 
 HAIGHT, J. On the 8th day of January, 1894, the 
 commissioners of taxes and assessments of the city of 
 New York assessed the relator, the Manliattan Railway 
 Company, for its personal property at the sum of $30,000,- 
 000. In the month of April thereafter the relator filed a 
 statement upon one of the blank forms furnished by the 
 department of taxes and assessments showing its condi- 
 tion on the second Monday of January, 1894. An examin- 
 ation of the treasury of the company was thereupon had 
 by the commissioners, who then reduced the assessment 
 and fixed it at the sum of $17,860,712. The relator there- 
 upon procured a writ of certiorari directed to the tax com- 
 missioners, commanding them to make return of the pro- 
 ceedings had before them to the Special Term of the Su- 
 preme Court in order that a review might be had before 
 that court. Upon the returns so made by the commission- 
 ers a hearing was had by the court in November, 1894, 
 upon which an order was entered vacating the assessment. 
 Upon an appeal to the General Term this order was re- 
 versed and the assessment as made reinstated. 
 
 430 
 
SOME JUDICIAL DECISIONS 431 
 
 In 1893 some controversy arose over tlie amount of tHe 
 assessment of the relator's personal property, which re- 
 sulted in Mr. Davies, the attorney for the relator, address- 
 ing a letter to the commissioners, in which he states that 
 Mr. Gould had authorized him to say that if the assess- 
 ment did not exceed $12,500,000 they would acquiesce. The 
 statement made in 1893 has some slight variations from 
 that made in 1894, but is substantially the same with the 
 exception that the amount of surplus reported in 1894 is 
 nearly $1,000,000 in excess of that of 1893, so that if the 
 commissioners in fixing the amount of the assessment for 
 1894 acted upon the statement made in 1893 as compared 
 with that made in 1894, and the letter addressed to them 
 by Mr. Davies, they could not well have increased the as- 
 sessment in 1894 more than $1,000,000 or thereabouts, the 
 amount of the increase of the surplus earnings of the com- 
 pany. This would have made in round numbers $13,500,- 
 000. It was, however, stated upon the argument by their 
 counsel that a very different method was adopted in reach- 
 ing the amount of the assessment; that in the statement 
 furnished to the commissioners the assessed value of the 
 real estate had been given at $7,323,200, and no mention 
 had been made as to its actual value, and that the com- 
 missioners were, therefore, left to judge for themselves as 
 to the actual value, and that that was arrived at in the fol- 
 lowing manner: 
 
 Capital Stock $29,925,200 
 
 Bonded indebtedness . . , 21,163,035 
 
 Surplus 5,326,432 
 
 Gross assets $56,414,667 
 
 DEDUCTIONS. 
 
 Assessed value of real estate $ 7,323.200 
 
 Stock in other companies ". 7,075,200 
 
 Mortgaged indebtedness 21,163,035 
 
 10 per cent of the capital stock 2,992,520 
 
 Total , $38,553,955 $38,553,955 
 
432 SOME JUDICIAL DECISIONS 
 
 Which deducted from gross assets, leaves amount 
 
 assessable $17,860,712 
 
 The actual value of the real estate as assessed is thus 
 ascertained from the relator's statement by deduct- 
 ing from the gross assets 56,414,667 
 
 The amount of its personal property, consisting of roll- 
 ing stock, cash, tools, etc $3,748,315 
 
 Stock in other companies 7,075,200 
 
 $10,823,315 
 
 Leaving as the actual value of the real estate $45,591,352 
 
 We cannot adopt or approve of this method of ascer- 
 taining the value of the relator's personal property or of 
 the actual value of its real estate. The method is erro- 
 neous and incorrect for various reasons. Under the statute 
 the capital stock of every company liable to taxation, ex- 
 cept such part of it as shall have been excepted in the as- 
 sessment roll or shall have been exempted by law, together 
 with its surplus profits or reserve funds exceeding 10 per 
 cent of its capital after deducting the assessed value of its 
 real estate and of shares of stock in other corporations ac- 
 tually owned by such company which are taxable upon 
 their capital stock under the laws of this state, shall be 
 assessed at its actual value and taxed in the same manner 
 as other personal and real estate of the country (Laws of 
 1857, chap. 456, sec. 3). It is the actual value of its cap- 
 ital stock and not the market value of its share stock that 
 is to be assessed; in other words, it is its actual tangible 
 personal property and not its franchises. Other statutes 
 provide for the taxing of its real estate and franchises. 
 (People ex rel. The Union Trust Co. v. Coleman, 126 N. 
 Y. 433.) The real property of the relator is located in the 
 city of New York under the eye and subject to the inspec- 
 tion of the commissioners. Under the Revised Statutes 
 they are required to assess it at its just and full value as 
 they would appraise the same in payment of a just debt 
 due from a solvent debtor. (1 R. S. 393, 17.) And under 
 the Consolidation Act for the city of New York it shall be 
 assessed *'at the sum for which such property under or- 
 
SOME JUDICIAL DECISIONS 433 
 
 dinary circumstances would sell." The value of property 
 is determined by what it can be bought and sold for, and 
 there can be no doubt but that these various expressions 
 used in the statutes all are intended to mean the actual 
 value of the property. The commissioners are sworn of- 
 ficers, and as such, in absence of evidence to the contrary, 
 are presumed to have done their duty. They have 
 assessed the real estate at $7,323,200, and yet, under the 
 method presented by their counsel for ascertaining the 
 value of the relator's personal property, they now esti- 
 mate the actual value of the real estate to be $45,591,352. 
 We are aware that it is generally understood that in man}" 
 localities throughout the state assessors, in violation of 
 their duties, assess the real estate in their localities at a 
 sum less than its actual value, but in the absence of evi- 
 dence that this has been done by the commissioners of 
 taxes and assessments in the city of New York, we cannot 
 assume that they have so transgressed for the purpose of 
 approving of their work in this case. Real property can- 
 not well be covered up or hid from view. Its value can 
 readily be ascertained. It should be assessed upon estim- 
 ates directly made as to its value and not upon presump- 
 tions figured upon intricate theories. 
 
 Again, the method presented by respondents' counsel 
 involves the presumption that the indebtedness of the cor- 
 poration represents property to the amount of such in- 
 debtedness in addition to that represented by its capital 
 stock. This presumption cannot be indulged. The in- 
 debtedness may have been incurred for operating expens- 
 es, wages of employes and material used up. It may 
 represent property worn out, decayed or burned up dur- 
 ing the existence of the corpora^tion. Presumptions that 
 arise from the earnings of a corporation and those that 
 arise from its indebtedness are quite different. Too many 
 of the railroads of the country are in the hands of receiv- 
 ers to v^arrant a judicial presumption that the bonded or 
 
 ii.VlIl— 28 w J. X 
 
434 SOME JUDICIAL DECISIONS 
 
 other indebtedness of each road represents its actual tang- 
 ible property in addition to that represented by its cap- 
 ital stock. 
 
 And again, the method proposed necessarily includes 
 the value of the franchises possessed by the corporation 
 which, as we have seen, cannot properly be included in the 
 assessment under review. 
 
 Whilst the assessment made cannot be sustained, we 
 think that the relator ought not to escape a proper assess- 
 ment for the propert}^ It is true that the commissioners 
 are not free to capriciously disregard the evidence and 
 emancipate themselves from all restrictions and rules, 
 however fundamental; they are not bound by statements 
 that are contradicted and which they disbelieve, where 
 good reasons exist for such disbelief. (The People ex rel. 
 Union Trust Co. v. Coleman, supra; The People ex rel. 
 Edison El. Co. v. Barker, 139 N. Y. 55-67; The People ex 
 rel. Manh. F. Ins. Co. v. The Comrs. of Taxes, 76 id. 64; 
 The People ex rel. Gen. El. Co. v. Barker, 141 id. 251; Peo- 
 ple ex rel. Westchester F. Ins. Co. v. Davenport, 91 id. 
 574.) The letter of Mr. Davies in 1893 to the effect that 
 if the assessment was made at $12,500,000 the company 
 would acquiesce, having been written for the purpose of 
 a settlement, and an adjustment of the controversy then 
 existing, could not properly be adopted by the commis- 
 sioners as the basis of an assessment for subsequent years. 
 Still, at the same time, it might well create a suspicion as 
 "to the truthfulness of a statement made the year follow- 
 ing showing that so far as the property of the corporation 
 was concerned, aside from its franchises, it was insolvent 
 to the extent of $3,000,000. Aside from this, there exists 
 the fact that the net earnings of the corporation for the 
 year were such as to enable it to pay the interest upon its 
 indebtedness and a dividend upon its thirty millions of 
 capital stock of 6 per cent and still have a surplus bor- 
 dering upon a million dollars. These facts fully justified 
 
SOME JUDICIAL DECISIONS 435 
 
 the commissioners in discrediting the statement made to 
 them by the relator. Personal property, unlike real prop- 
 erty, may not always be readily found and assessments 
 thereof by assessors are often attended with difficulties. 
 For these reasons more latitude necessarily should be giv- 
 en assessors in ascertaining and determining the amount 
 and value of personal property. Presumptions to some 
 extent should be indulged. For this reason the earnings 
 of a corporation may be considered by the assessors, and 
 where they are such as to enable the company to pay its 
 running expenses, necessary repairs, interest upon its in- 
 debtedness and declare a dividend of 6 per cent and still 
 have a surplus, it may be assured that its capital stock re- 
 mains unimpaired and that there are assets over and 
 above sufficient to pay for its outstanding indebtedness. 
 (People ex rel. The Equitable Gas Light Co. v. Barker, 
 144N. Y. 91). 
 
 This method, however, may include the value of the 
 franchises which should be deducted in order to determine 
 the amount of property liable for assessment. Such value 
 has not been given and we are consequently left without the 
 evidence at hand upon which to determine the actual value 
 of the personal property under the presumptions arising 
 from the facts mentioned. It may turn out that the cap- 
 ital stock represents property to the amount thereof in 
 addition to the franchises; that the stock issued to the 
 stockholders of the New York, Metropolitan and Subur- 
 ban companies represented money actually paid by the 
 stockholders of those companies for real estate and the 
 building construction and equipments of the elevated rail- 
 roads thereon. Should such be the case, the presumption 
 from the earnings of the company w^ould be permissible, 
 that the capital stock remained unimi^aired, representing 
 property over and above the franchises, to the amount 
 thereof, and in addition, sufficient to pay the outstanding 
 indebtedness. Upon this basis the assessable personal 
 
436 SOME JUDICIAL DECISIONS 
 
 property could be determined by adding to the capital 
 stock issued the surplus still of hand not invested in the 
 real and personal property of the company and deduct- 
 ing therefrom the assessable value of the real estate, the 
 stock in other companies and the 10 per cent allowed by 
 statute. The result would be as follows : 
 
 Capital stock $29,925,200 
 
 Surplus on hand in cash 1,382,838 
 
 Total $31,308,038 
 
 Real estate ., $7,323,200 
 
 Stock in other companies . . .' 7.075,200 
 
 Ten per cent of capital 2,992,520 
 
 17,390,920 
 
 Amount assessable $13,917,118 
 
 The General Term was of the opinion that this assess- 
 ment could be sustained upon the authority of The People 
 ex rel. The Equitable Gas Light Co. v. Barker (144 N. Y. 
 94). The difficulty is that in that case the value of the 
 patents and franchise was found to be $500,000, whilst in 
 this case we have no value given to the franchises or facts 
 appearing from which such value can be determined. 
 
 The statute provides that upon the return of a writ of 
 certiorari to review an assessment the court shall have 
 power to order the assessment, if illegal, to be stricken 
 from the roll, or, if erroneous or unequal, to order a re- 
 assessment of the property, etc. (laws of 1880, chap. 269, 4). 
 The assessment in this case is not illegal; it is merely er- 
 roneous. A re-assessment should, therefore, be ordered. 
 
 The order of the General Term should be reversed and 
 that of the Special Term modified so as to vacate the as- 
 sessment made and order a re-assessment by the commis- 
 sioners, without costs of this appeal to either party. 
 
 All concur, except O'BEIEN, J. not voting. 
 
 Ordered accordingly. 
 
CITY OF KNOXVILLE V. KNOXVILLE WATER CO. 
 
 U. S. REPORTS 212 2--19 
 
 [Mr. Justice Moody delivered the opinion of the court.] 
 
 This is an appeal by the city of Knoxville from a de- 
 cree of the Circuit Court of the United States for the 
 Eastern District of Tennessee. The appellee is a public 
 service corporation, chartered for, and engaged in, the 
 business of supplying that city and its inhabitants with 
 water for domestic and other uses. The cause in which 
 the decree was rendered is a suit in equity which was 
 brought by the company on December 7, 1901, against the 
 city to restrain the enforcement of a city ordinance fixing 
 in detail the maximum rates to be charged by the com- 
 pany. This ordinance was enacted on March 30, 1901. The 
 bill contained may allegations, which have become imma- 
 terial by ithe decision of this court in Knoxville Water 
 Company v. Knoxville, 189 U. S. 434, in which the valid- 
 ity of the ordinance was sustained, except so far as it might 
 confiscate the property of the company by fixing rates so 
 low as to have that effect. The latter contention alone was 
 left open to the company, and to it the remainder of the 
 bill is mainly directed. The allegations in that regard are, 
 that the rates fixed by the ordinance w^ere so low that they 
 denied to the company a reasonable return upon the prop- 
 erty employed in the business, and thereby took it for pub- 
 lic use without comipensation, in violation of the Four- 
 teenth Amendment to the Constitution of the United 
 States. After answer by the respondent and replication 
 by the complainant the cause was referred to a special 
 master, whose report was confirmed by the court. The 
 master found and reported that the value of the plant and 
 
 437 
 
438 SOME JUDICIAL DECISIONS 
 
 property employed in tlie business at the date of the pass- 
 age of the ordinance was $608,427.95; that the gross in- 
 come from the company's business was $88,481.39, and 
 that the operating expenses were $34,750.91. The figures 
 of income and expense are those of the fiscal j^ear ending 
 March 31, 1901, and the valuation was made as of that 
 date. The master found and reported that the diminution 
 of income which would have resulted from the enforce- 
 ment of the ordinance during that fiscal year was $17,- 
 623.64, and that the gross income would have been reduced 
 thereby to $70,857.75, leaving a net income of $36,106.84. 
 This net income was less than 6 per cent on the valuation. 
 In the oj)inion of the master 8 per cent, which included 2 
 per cent to provide for depreciation, was the minimum net 
 return which the company was entitled to earn. The 
 judge of the Circuit Court, in his opinion confirming the 
 master's report, adopted the master's valuation of the 
 whole plant and property at $608,427.95 (although he held 
 that it ought to be increased by about $3,000.00), and the 
 master's finding that the gross income was $88,481.39; that 
 the expenses were $34,750,91; that the effect of the re- 
 duction made by the ordinance would be to lessen the 
 gross income by $17,623.64, and that therefore the net in- 
 come under the ordinance would be $36,106.84, or about 
 $400.00, less than 6 per cent on the valuation. Upon these 
 assumptions of fact as to its effect the judge regarded the 
 ordinance as confiscatory and issued a permanent injunc- 
 tion against its enforcement. 
 
 At the threshold of the consideration of the case the 
 attitude of this court to the facts found below should be 
 defined. Here are findings of fact by a master, confirmed 
 by the court. The company contends that under these cir- 
 cumstances the findings are conclusive in this court, un- 
 less they are without support in the evidence or were made 
 under the influence of erroneous views of law. We need 
 not stop to consider what the effect of such findings would 
 
SOME JUDICIAL DECISIONS 439 
 
 be in an ordinary suit in equity. The purpose of this suit 
 is to arrest the operation of a law on the ground that it is 
 void and of no effect. It happens that in this particular 
 case it is not an act of the legislature that is attacked, but 
 an ordinance of a municipality. Nevertheless the func- 
 tion of rate-making is purely legislative in its character, 
 and this is true, whether it is exercised directly by the leg- 
 islature itself or by some subordinate or administrative 
 body, to whom the power of fixing rates in detail has been 
 delegated. The completed act derives its authority from 
 the legislature and must be regarded as an exercise of the 
 legislative power. (Prentis v. Southern Railway Co., 211 
 U. S. 210; Honolulu Transit Co. v. Hawaii, 211 U. S. 282.) 
 There can be at this day no doubt, on the one hand, that 
 the courts on constitutional grounds may exercise the 
 power of refusing to enforce legislation, nor, on the other 
 hand, that that power ought to be exercised only in the 
 clearest cases. The constitutional invalidity should be 
 manifest, and where that invalidity rests upon disputed 
 questions of fact the invalidating facts must be proved to 
 the satisfaction of the court. In view of the character of 
 the judicial power invoked in such cases it is not tolerable 
 that its exercise should rest securely upon the findings of 
 a master, even though they be confirmed by the trial court. 
 The power is best safeguarded against abuse by preserv-- 
 ing to this court complete freedom in dealing with the 
 facts of each case. Nothing less than this is demanded by 
 the respect due from the judicial to the legislative author- 
 ity. It must not be understood that the findings of a mast- 
 er, confirmed by the trial court, are without weight, or 
 that they will not, as a practical question sometimes be 
 regarded as conclusive. All that is intended to be said is, 
 that in cases of this character this court will not fetter its 
 discretion or judgment by any artificial rules as to the 
 weight of the master's findings, however useful and well- 
 
440 SOME JUDICIAL DECISIONS 
 
 settled these rules may be in ordinary litigation. We ap- 
 proach the discussion of the facts in this spirit. 
 
 The first fact essential to the conclusion of the court 
 below is the valuation of the property devoted to the pub- 
 lic uses, upon which the company is entitled to earn a re- 
 turn. That valuation ($608,000) must now be considered. 
 It was made up by adding to the appraisement, in minute 
 detail of all the tangible property, the sum of $10,000 for 
 '^organization, promotion, etc.," and $60,000 for ''going 
 concern." The latter sum we understand to be an expres- 
 sion of the added value of the plant as a whole over the 
 sum of the values of its component parts, which is at- 
 tached to it because it is in active and successful opera- 
 tion, and earning a return. We express no opinion as to 
 the propriety of including these two items in the valuation 
 of the plant, for the purpose for which it is valued in this 
 case, but leave that question to be considered when it nec- 
 essarily arises. We assume, without deciding, that these 
 items were properly added in this case. The value of the 
 tangible property found by the master is, of course, $608,- 
 000 lessened by $70,000, the value attributed to the in- 
 tangible property, making $538,000. This valuation was 
 determined by the master by ascertaining what it would 
 cost, at the date of the ordinance, to reproduce the exist- 
 ing plant as a new plant. The cost of reproduction is one 
 way of ascertaining the present value of a plant like that 
 of a water company, but that test would lead to obviously 
 incorrect results, if the cost of reproduction is not dimin- 
 ished by the depreciation which has come from age and 
 use. The company contends that the master, in fixing up- 
 on the valuation of the tangible property, did make an 
 allowance for depreciation, but we are unable to agree to 
 this. The master nowhere says that he made allowance 
 for depreciation and the language of his report is incon- 
 sistent with such a reduction. The figures which he 
 adopts are those of a ''fair contractor's price." The basis 
 
SOME JUDICIAL DECISIONS 441 
 
 of his calculation was tlie testimony of an opinion witness 
 called by the company. That witness submitted a table, 
 which avowedly showed the cost of reproduction without 
 allowance for depreciation. The values testified to by him 
 were adopted by the master in the great majority of cases. 
 The witness' valuation of the tangible property was 
 somewhat reduced by the master, but the reductions were 
 not based upon the theory of depreciation, but upon a dif- 
 ference of opinion as to the reproduction cost. 
 
 The cost of reproduction is not always a fair measure 
 of the present value of a plant which has been in use for 
 many years. The items composing the plant depreciate 
 in value from year to year in a varying degree. Some 
 pieces of property, like real estate for instance, depreciate 
 not at all, and sometimes, on the other hand, appreciate 
 in value. But the reservoirs, the mains, the service pipes, 
 structures upon real estate, standpipes, pumps, boilers, 
 meters, tools and appliances of every kind begin to depre- 
 ciate with more or less rapidity from the moment of their 
 first use. It is not easy to fix at any given time the amount 
 of depreciation of a plant whose component parts are of 
 different ages with different expectations of life. But it 
 is clear that some substantial allowance for depreciation 
 ought to have been made in this case. The officers of the 
 company, alio intuitu, estimated what they called^ 'incom- 
 plete depreciation" of this plant (which we understand to 
 be the depreciation of the surviving parts of it still in use) 
 at $77,000, which is 14 per cent of the master's apprais- 
 ment of the tangible property. A witness called by the 
 city placed the reproduction value of the tangible prop- 
 erty at $363,000, and estimated the allowance that should 
 be made for depreciation at $118,000, or 32 per cent. In 
 the view we take of the case it is not necessary that we 
 should undertake the difficult task of determining exactly 
 how much the master's valuation of the tangible property 
 ought to have been diminished by the depreciation which 
 
442 SOME JUDICIAL DECISIONS 
 
 that property had undergone. It is enough to say that 
 there should have been a considerable diminution, suffi- 
 cient at least to raise the net income found by the court 
 above 6 per cent upon the whole valuation thus dimin- 
 ished. If, for instance, the master's valuation should be 
 diminished by $50,000, allowed for depreciation, the net 
 earnings found by him would show a return of substanti- 
 ally 6.5 per cent. 
 
 Counsel for the company urge rather faintly that the 
 capitalization of the company ought to have some influ- 
 ence in the case in determining the valuation of the prop- 
 erty. It is a sufficient answer to this contention that the 
 capitalization is shown to be considerably in excess of 
 any valuation testified to by any witness, or which can be 
 arrived at by any process of reasoning. The cause for the 
 large variation between the real value of the property and 
 the capitalization in bonds and preferred and common 
 stock is apparent from the testimony. All, or substan- 
 tially all, the preferred and common stock was issued to 
 contractors for the construction of the plant, and the nom- 
 inal amount of the stock issued was greatly in excess of 
 the true value of the property furnished by the contracts. 
 A single instance taken from the testimony will illustrate 
 this. At the very start of the enterprise a contract was 
 entered into for the construction of a part of the plant, 
 which was of a value slightly, if at all, exceeding $125,- 
 000. The price paid the contractor was $125,000 in bonds 
 and $200,000 in common stock. Other contracts for con- 
 struction showed a like disproportion between value furn- 
 ished and nominal capitalization received for that value. 
 It perhaps is unnecessary to say that such contracts were 
 made by the company with persons who, at the time, by 
 stock ownership, controlled its action. Bonds and pre- 
 ferred and common stock issued under such conditions 
 afford neither measure of nor guide to the value of the 
 property. 
 
SOME JUDICIAL DECISIONS 443 
 
 We think that the master and the court erred in an- 
 other respect, which might affect in an important way the 
 amount which could have been realized under the opera- 
 tion of the ordinance. This error consisted in the manner 
 of deducting the reductions necessarily made by the or- 
 dinance. The evidence in the record is not entirely clear, 
 though, after careful consideration, we think it shows the 
 following state of facts: The company's schedule pre- 
 scribed certain rates, which we may call the book rates, 
 but upon a large part of them a discount of 5 per cent was 
 made if they were promptly paid. The consumers very 
 generally availed themselves of this discount. The dis- 
 count rates constituted the actual collections, and may be 
 called the actual rates. For the fiscal year which was ex- 
 amined the book rates amounted, in round numbers, to 
 $93,000, while the actual rates amounted, as the master 
 found, to $88,000. The percentage of reduction made by 
 the ordinance was computed to be 22.88. This percentage 
 was ascertained either by comparing the book rates with 
 the ordinance rates, or by comparing the actual rates with 
 the ordinance rates, still further reduced by a 5 per cent 
 discount for prompt payment, which comes to substan- 
 tially the same result. The fallacy in the process em- 
 ployed by the master consisted in substance in assuming 
 that the ordinance rates would be subject to a discount for 
 prompt payment. The company, it is true, might, if it 
 chose, allow such a discount from the ordinance rates, but 
 the ordinance required no discount from the rates estab- 
 lished by it, and the company therefore was bound to offer 
 none. 11 it stood upon the letter of the ordinance, as it had 
 the right to do, and exacted from the consumers the full 
 charges prescribed by the ordinance, the amount which 
 would have been realized would have been over $4,000 
 more than that found by the master, or a net income of not 
 less than $40,000. Doubtless, the abandonment of the com- 
 mon method of discount for prompt payment would de- 
 
444 SOME JUDICIAL DECISIONS 
 
 prive the company of an efficient aid to the quick collec- 
 tion of its bUIs, but in the case of a prime necessity like 
 water there are other methods of enforcing prompt pay- 
 ment, though it is not unlikely that the elimination of the 
 discount rate would add somewhat to the cost of collec- 
 tion and thereby to the operating expenses. 
 
 A brief recently filed by the city, to which no reply has 
 been made, seems to show conclusively that there was still 
 another error in ascertaining the amount of reduction ef- 
 fected by the ordinance. What was actually done was to 
 deduct the 22.88 reduction from the actual water rates 
 (excluding hydrant rentals, which were not changed), but 
 of these actual water rates $10,000 came from territory 
 outside of the corporate limits, which was not affected by 
 the ordinance. From this $10,000 no percentage should 
 have been deducted. The reduction therefore, was too 
 large by over $2,000. If this correction should be made, it 
 would amount to nearly four-tenths of one per cent on the 
 capitalization. 
 
 We are also of opinion that the master and the court 
 erroneously excluded evidence which had an important 
 bearing upon the true earning capacity of the company 
 under the ordinance. A clear appreciation of this error 
 can be best obtained by a comprehensive review of the 
 hearing. The company's original case was based upon an 
 elaborate analysis of the cost of construction. To arrive 
 at the present value of the plant large deductions were 
 made on account of the depreciation. This depreciation 
 was divided into complete depreciation and incomplete de- 
 preciation. The complete depreciation represented that 
 part of the original plant which through destruction or 
 obsolescence had actually perished as useful property. The 
 incomplete depreciation represented the impairment in 
 value of the parts of the plant which remained in exist- 
 ence and were continued in use. It was urgently contend- 
 ed that in fixing upon the value of the plant upon which 
 
SOME JUDICIAL DECISIONS 445 
 
 tlie company was entitled to earn a reasonable return the 
 amounts of complete and incomplete depreciation should 
 be added to the present value of the surviving parts. The 
 court refused to approve this method, and we think prop- 
 erly refused. A water plant, with all its additions, begins 
 to depreciate in value from the moment of its use. Before 
 coming to the question of profit at all the company is en- 
 titled to earn a sufficient sum annually to provide not only 
 for current repairs but for making good the depreciation 
 and replacing the parts of the property when they come to 
 the end of their life. The company is not bound to see its 
 property gradually waste, without making provision out 
 of earnings for its replacement. It is entitled to see that 
 from earnings the value of the property invested is kept 
 unimpaired, so that at the end of any given term of years 
 the original investment remains as it was at the begin- 
 ning. It is not only the right of the company to make 
 such a provision, but it is its duty to its bond and stock- 
 holders, and, in the case of a public service corporation at 
 least, its plain duty to the public. If a different course 
 were pursued the only method of providing for replace- 
 ment of property which has ceased to be useful would be 
 the investment of new capital and the issue of new bonds 
 or stocks. This course would lead to a constantly increas- 
 ing variance between present value and bond and stock 
 capitalization — a tendency which would inevitably lead to 
 disaster either to the stockholders or to the public, or both. 
 If, however, a company fails to perform this plain duty 
 and to exact sufficient returns to keep the investment un- 
 impaired, whether this is the result of unwarranted divi- 
 dends upon over-issues of securities, or of omission to ex- 
 act proper prices for the output, the fault is its o^ti. 
 When, therefore, a public regulation of its prices comes 
 under question the true value of the property then em- 
 ployed for the purpose of earning a return cannot be 
 
446 SOME JUDICIAL DECISIONS 
 
 enhanced by a consideration of the errors in management 
 which have been committed in the past. 
 
 After the company had closed its case the city imder- 
 took to determine the present value of the company's 
 property by the plain method of ascertaining the cost of 
 reproduction, diminished by depreciation. In its case in 
 rebuttal, the company followed the same method, though 
 the results differed largely, and, as we have seen, no prop- 
 er allowance for depreciation was made. In the course of 
 presenting its case the city offered evidence of the net in- 
 come of some years subsequent to the passage of the ordin- 
 ance. The case is peculiar. The company has never ob- 
 served the ordinance. The suit was begun nine months 
 after its enactment and tried considerably later. In the 
 meantime the company's gross income had largely in- 
 creased. But the decision in the court below Was based 
 solely on the operations of the fiscal year ending March 31, 
 1901, and the amount of net income ascertained, namely, 
 $36,000, was obtained by applying the reductions made by 
 the ordinance to the operations of that fiscal year. We 
 think it was an error to confine the investigation to, and 
 base the judgment upon, that year alone. The precise 
 subject of inquiry was, what would be the effect of the 
 ordinance in the future. The operations of the preceding 
 fiscal year, or of any other past fiscal year, were valueless 
 if the year was abnormal, and were only of significance so 
 far as they foretold the future. If, as in this case, suffi- 
 cient time has passed, so that certainty instead of 
 prophecy can be obtained, the certainty would be prefer- 
 able to the prophecy. In this case there could be no abso- 
 lute certainty, because the ordinance had never been put 
 in operation. But evidence of the operations of the years 
 succeeding to the ordinance is relevant and of great im- 
 portance, and by a consideration of such evidence a much 
 greater degree of certainty could be obtained. Suppose, 
 by way of illustration, that before bringing suit the com- 
 
SOME JUDICIAL DECISIONS 447 
 
 pany had put the ordinance into effect and had observed 
 it for a number of years, and the result showed that a suffi- 
 cient net income had been realized, is it possible that a 
 suit then could be brought and the evidence confined to a 
 period prior to the ordinance, and by a process o£ specu- 
 lation the conclusion reached that the ordinance would be 
 confiscatory? Some evidence regarding the income of the 
 company, after the passage of the ordinance, is in the rec- 
 ord, but it subsequently was excluded from consideration. 
 It showed an increase of gross and net earnings, but also 
 an increase in the property devoted to the public use. We 
 are unable to say what the effect of the evidence excluded 
 would be; all we can say is, that the inquiry was undul}' 
 limited by the exclusion of the evidence of the operation of 
 subsequent years. 
 
 It follows from what has been said that the judgment 
 of the court below cannot stand. There was error in the 
 appraisement of the present value of the plant, in the de- 
 duction of the reductions made by the ordinance, and in 
 the exclusion of evidence relating to the operations of the 
 company after the enactment of the ordinance. 
 
 If hereafter it shall appear, under the actual operation 
 of the ordinance, that the returns allowed by it operate as 
 a confiscation of property, nothing in this judgment will 
 prevent another application to the courts of the United 
 States or to the courts of the State of Tennessee. But as 
 the case now stands there is no such certainty that the 
 rates prescribed will necessarily have the effect of deny- 
 ing to the company such a return as would avoid confis- 
 cation. For these reasons — 
 
 The decree is reversed and the case remanded to the 
 court below with directions to dismiss the bill without 
 prejudice. 
 
WILCOXET AL. V. CONSOLIDATED GAS CO. 
 
 U. S. REPORTS 212 19-55 
 
 [Mr. Justice Peckham delivered the opinion of the court.] 
 
 At the outset it seems to us proper to notice the views 
 regarding the action of the court below, which have been 
 stated by counsel for the appellants, the Public Service 
 Commission, in their brief in this court. They assume to 
 criticise that court for taking jurisdiction of this case, as 
 precipitate, as if it were a question of discretion or comity, 
 whether or not that court should have heard the case. On 
 the contrary, there was no discretion or comity about it. 
 When a federal court is properly appealed to in a case 
 over which it has by law jurisdiction it is the duty to take 
 jurisdiction (Cohens v. Virginia, 6 Wheat. 264, 404), and 
 in taking it that court cannot be truthfully spoken of as 
 precipitate in its conduct. That the case may be one of 
 local interest only is entirely immaterial, so long as the 
 parties are citizens of different states or a question is in- 
 volved which by law brings the case within the jurisdic- 
 tion of a federal court. The right of a party plaintiff to 
 choose a federal court where there is a choice cannot be 
 properly denied. In re Metropolitan Railway Receiver- 
 ship, 208 U. S. 90-110 ; Prentis v. Atlantic Coast Line et al., 
 211 U. S. 210. In the latter case it was said that a plaintiff 
 could not be forbidden to try the facts upon which his 
 right to relief is based before a court of his own choice, if 
 otherwise competent. It is true an application for an in- 
 junction was denied in that case because the plaintiff should 
 in our opinion have taken the appeal allowed him by the law 
 of Virginia while the rate of fare in litigation was still at 
 the legislative stage, so as to make it absolutely certain 
 
 448 
 
SOME JUDICIAL DECISIONS 449 
 
 that the officials of the state would try to establish and 
 enforce an unconstitutional rule. 
 
 The case before us is not like that. It involves the con- 
 stitutionality, with reference to the Federal Constitution, 
 of two acts of the legislature of New York, and it is one 
 over which the Circuit Court undoubtedly had jurisdic- 
 tion under the act of Congress, and its action in taking 
 and hearing the case cannot be the subject of proper crit- 
 icism. ' 
 
 An examination of the record herein, with reference to 
 the questions involved in the merits, shows that the act 
 imder which the Gas Commission was appointed was sub- 
 sequently to the commencement and trial of this suit, de- 
 clared, on grounds not here material, to be unconstitution- 
 al by the Court of Appeals of New York. (191 N. Y. 123, 
 February 18, 1908.) The order made by the commission 
 must therefore be regarded as invalid. It is not important 
 in this case, because the act of the legislature of 1906, 
 makes the same provision as to the price of gas to consum- 
 ers other than the city that the order does. We have as 
 remaining to be considered the above-mentioned two acts 
 of the legislature. 
 
 The question arising is as to the validity of the acts 
 limiting the rates for gas to the prices therein stated. The 
 rule by which to determine the question is pretty well 
 established in this court. The rates must be plainly un- 
 reasonable to the extent that their enforcement would be 
 equivalent to the taking of property for public use without 
 such compensation as under the circumstances is just both 
 to the owner and the public. There must be a fair return 
 upon the reasonable value of the property at the time it is 
 being used for the public. (San Diego Land & Town Com- 
 pany V. National City, 174 U. S. 739, 757; Same v. Jasper, 
 189 U. S. 439, 442. J 
 
 Many of the cases are cited in Knoxville v. Water Co., 
 Just decided, ante, p. 1. The case must be a clear one be- 
 
 B— VIII— 29 
 
450 SOME JUDICIAL DECISIONS 
 
 fore the courts ought to be asked to interfere with state 
 legislation upon the subject of rates, especially before 
 there has been any actual experience of the practical re- 
 sult of such rates. In this case the rates have not been en- 
 forced as yet, because the bill herein was filed and an in- 
 junction obtained restraining their enforcement before 
 they came into actual operation. 
 
 In order to detemiine the rate of return upon the rea- 
 sonable value of the property at the time it is being used 
 for the public, it, of course, becomes necessary to ascer- 
 tain what that value is. A very great amount of evidence 
 was taken before the master upon that subject, which is 
 included in five large volumes of the record. Valuations 
 by expert witnesses were given as to the value of the real 
 estate OT\Tied by the complainant, and as to the value of 
 the mains, service pipes, plants, meters and miscellaneous 
 personal jDroperty. 
 
 The value of real estate and plant is to a considerable 
 extent matter of opinion, and the same may be said of per- 
 sonal estate when not based upon the actual cost of ma- 
 terial and construction. Deterioration of the valu§ of the 
 plant, mains, and pipes is also to some extent based upon 
 opinion. All these matters make questions of value some- 
 what uncertain; while added to this is an alleged prospec- 
 tive loss of income from a reduced rate, a matter also of 
 much uncertainty, depending upon the extent of the re- 
 duction and the probable increased consumption, and we 
 have a problem as to the character of a rate which is diffi- 
 cult to answer without a practical test from actual oper- 
 ation of the rate. Of course, there may be cases where 
 the rate is so low upon any reasonable bases of valuation 
 that there can be no just doubt as to its confiscatory na- 
 ture, and in that event there should be no hesitation in 
 so deciding and in enjoining its enforcement without wait- 
 ing for the damage which must inevitably accompany the 
 operation of the business under the objectionable rate. But 
 
SOME JUDICIAL DECISIONS 451 
 
 where the rate complained of shows in any event a very 
 narrow line of division between possible confiscation and 
 proper regulation, as based upon the value of the prop- 
 erty found by the court below, and the division depends 
 upon opinions as to value, which differ considerably among 
 the witnesses, and also upon the results in the future of 
 operating under the rate objected to, so that the material 
 fact of value is left in much doubt, a court of equity ought 
 not to interfere by injimction before a fair trial has been 
 made of continuing the business under that rate, and thus 
 eliminating as far as is possible, the doubt arising from 
 opinions as opposed to facts. 
 
 A short history of the complainant, as to its incorpora- 
 tion and its capital, and the method by which the value 
 of its franchises was arrived at, will render the further 
 examination of the case more intelligible. 
 
 Prior to 1884 there were seven gaslight companies in 
 New York City, each operated under separate charters, 
 granted at different times between the years 1823 and 1865 
 or 1871. They each had the right to use the streets of cer- 
 tain portions of the city for the purpose of la}dng their 
 mains and service pipes in order to furnish gas to the city 
 and the citizens. Not one of the companies had ever been 
 called upon to pay a penny for such right, but the grant 
 to each was in that aspect a gratuity. It was not, at the 
 time of granting franchises such as these, the custom to 
 pay for them. 
 
 In 1884, by chapter 367 of the laws of that year, author- 
 ity to consolidate manufacturing corporations was granted 
 upon conditions mentioned in the act. The directors of the 
 corporations proposing to consolidate were to make an 
 agreement for consolidation, embracing, among other 
 things, the amount of capital and the number of shares of 
 stock into which it should be divided, the capital not to 
 be in amount more ^'than the fair aggregate value of the 
 property, franchises and rights of the several companies 
 
452 SOME JUDICIAL DECISIONS 
 
 to be consolidated." The agreement was not to be valid 
 until submitted to the stockholders of each of the companies 
 and approved by two-thirds of each. The constituent com- 
 panies, which were afterwards consolidated under their 
 agreement, and pursuant to the act mentioned, were six 
 in number, the seventh, the Mutual Company, withdraw- 
 ing. The companies agreed upon the valuation of their 
 property, which was to be paid for in the stock of the con- 
 solidated company, and the original stock held by the 
 stockholders of each company was surrendered to the con- 
 solidated company. The value of the franchises of all the 
 companies was set at the figure of $7,781,000. Tlie court 
 below said that the master reported there was little direct 
 evidence before him as to the value of the franchises, to 
 which the court added that if the master, by direct evi- 
 dence, meant testimony of the same kind regarding their 
 value as had been offered regarding every item of tangible 
 property, there was none at all. 
 
 The court further stated "that it does not appear in 
 the evidence how the valuation of the franchises was meas- 
 ured, or why the figures selected were chosen, but that it 
 was true that when complainant was organized, in 1884, 
 under the consolidation statute, which in terms permitted 
 it to acquire the property and franchises of the other com- 
 panies, it issued stock of the par value of $7,781,000, rep- 
 resenting the franchises it then acquired and nothing else, 
 and that the stock was held by purchasers, who, I am com- 
 pelled to think, had a right to rely upon legal protection 
 for legally issued stock." It is not, of course, contended 
 there was special stock issued for this particular item, 
 but it was included in the total sum for which the consoli- 
 dated company issued its stock and upon its receipt the 
 stockholders in the various companies surrendered their 
 stock in those companies. The result was that the amount 
 of the stock issued by the consolidated company was in- 
 creased by $7,781,000, representing a value of franchises 
 
&OME JUDICIAL DECISIONS 453 
 
 which was agreed upon by the stockholders in the com- 
 panies, and which had never cost any; of them a single 
 penny. 
 
 It cannot be disputed that franchises of this nature 
 are property and cannot be taken or used by others with- 
 out compensation. Monongahela Co. v. United States, 148 
 U. S. 312; People v. O'Brien, 111 N. Y., 1, and cases cited. 
 The important question is always one of value. Taking 
 their value in this case as arrived at by agreement of their 
 owners, at the time of the consolidation, that value has been 
 increased by the finding of the court below to the sum of 
 $12,000,000 at the time of the commencement of this suit. 
 The trial court said: "If, however, complainant's fran- 
 chises were worth $7,781,000 in 1884, and its tangible prop- 
 erty, at the same time, was appraised (as appears in evi- 
 dence) at $30,000,000 (in round figures), then since com- 
 plainant's business (in sales volume) has, in twenty-three 
 years, almost quadrupled, and its tangible assets grown 
 to $47,000,000, it appears to me that a fair method of fixing 
 value of the franchises in 1905 is to assume the same growth 
 in value for the franchises as is demonstrated by the evi- 
 dence in the case of tangible property. If, therefore, the 
 franchise valuation of 1884 was proportioned to person- 
 alty and realty of $30,000,000, a franchise valuation pro- 
 portioned to $47,000,000 in 1905 would be over $12,000,000. 
 This, I think, a logical result from the assumption I am 
 compelled to start with, i. e., that franchises have a sep- 
 arate and independent value. But there is, however, no 
 method of valuing franchises, except by a consideration of 
 earnings; earnings must be proportioned to assets; and both 
 kinds of assets, tangible and intangible, must stand upon 
 the same plane of valuation; having, therefore, a measure 
 of growth of tangible assets from 1884 to 1905, the fran- 
 chise assets must be assumed to have grown in the same 
 proportion. I find that the value of complainant's fran- 
 chises at the date of inquiry was not less than $12,000,000, 
 
454 SOME JUDICIAL DECISIONS 
 
 making a total valuation of $59,000,000, upon which the 
 probable return is $3,030,000, or very considerably less than 
 6 per cent." The judge stated his own views as opposed 
 to including these franchises in the property upon the value 
 of which a return is to be calculated in fixing the amount 
 of rates, but held that he was bound by decided cases to 
 hold against his personal views. 
 
 We are not prepared to hold with the court below as to 
 the increased value which it attributes to the franchises. 
 It is not only too much a matter of pure speculation, but 
 we think it is also opposed to the principle upon which 
 such valuation should be made. This corporation is one 
 of that class which is subject to regulation by the legis- 
 lature in the matter of rates, provided they are not made 
 so low as to be confiscatory. The franchises granted the 
 various companies and held by complainant consisted in 
 the right to open the streets of the city and lay down mains 
 and use them to supply gas, subject to the legislative right 
 to so regulate the price for the gas as to permit not more 
 than a fair return (regard being had to the risk of the 
 business) upon the reasonable value of the property at 
 the time it is being used for the public. 
 
 The evidence shows that from their creation, down to 
 the consolidation in 1884, these companies had been free 
 from legislative regulation upon the amount of the rates 
 to be charged for gas. They had been most prosperous 
 and had divided very large earnings in the shape of divi- 
 dends to their stockholders, dividends which are charac- 
 terized by the Senate committee, appointed in 1885 to in- 
 vestigate the facts surroimding the consolidation, as enor- 
 mous. The report of that committee shows that several of 
 the companies had averaged, from their creation, dividends 
 over 16 per cent, and the six companies in the year 1884 
 paid a dividend upon capital which had been increased 
 by earnings, as in the case of the Manhattan and the New 
 
SOME JUDICIAL DECISIONS 455 
 
 York, of 18 per cent, and, had it been upon the money 
 actually paid in, it would have been nearly 25 per cent. 
 
 The committee also said in the same report that these 
 ' 'franchises were in force November 10, 1884, the time of 
 the consolidation, and the money invested in them was 
 earning the same enormous dividends. So far as the evi- 
 dence shows, there was nothing in the condition of affairs 
 on the 10th of November to indicate that these franchises 
 would not be as valuable for the next twenty years as they 
 had been in the past. There were gas companies enough 
 in the city with a capacity capable of supplying the de- 
 mands for the next twenty years. A law was on our stat- 
 ute books that actually prohibited the laying of any more 
 gas pipes in the streets. The gas companies had an agree- 
 ment among themselves, fixing the price of gas at a figure 
 that paid these dividends. The people were paying this 
 price, as they had in the past, without objection or pro- 
 test. This price may have been too high, and the divi- 
 dends were excessive, but they were not illegal, and the 
 valuation of the franchises computed upon these dividends, 
 and that state of facts cannot be called a violation of a 
 law that expressly authorized it to be done, unless such 
 valuation was too high." 
 
 The committee, upon these facts, were of opinion that 
 the valuation of $7,781,000 for the franchises was not more 
 than their fair aggregate value. 
 
 Assuming, as the committee did, that the company 
 would be permitted to charge the same prices in the future 
 which in the past had resulted in these *' enormous" or 
 *' excessive" dividends, it need not be matter of surprise 
 that a franchise by means of which such dividends had 
 been possible was not regarded as overvalued at the sum 
 stated in 1884. 
 
 We think that under the above facts the courts ought 
 to accept the valuation of the franchises fixed and agreed 
 upon under the act of 1884 as conclusive at that time. The 
 
456 SOME JUDICIAL DECISIONS 
 
 valuation was provided for in tlie act, which was followed 
 by the companies, and the agreement regarding it has been 
 always recognized as valid, and the stock has been largely 
 dealt in for more than twenty years past on the basis of 
 the validity of the valuation and of the stock issued by 
 the company. 
 
 But although the state ought, for these reasons, to be 
 bound to recognize the value agreed upon in 1884 as part 
 of the property upon which a reasonable return can be de- 
 manded, we do not think an increase in that valuation 
 ought to be allowed upon the theory suggested by the court 
 below. Because the amount of gas supplied has increased 
 to the extent stated, and the other and tangible property 
 of the corporations has increased so largely in value, is 
 not, as it seems to us, any reason for attributing a like pro- 
 portional increase in the value of the franchises. Real 
 estate may have increased in value very largely, as also the 
 personal property, without any necessary increase in the 
 value of the franchises. Its past value was founded upon 
 the opportunity of obtaining these enormous and excessive 
 returns upon the property of the company, without legis- 
 lative interference with the price for the supply of gas, 
 but that immunity for the future was, of course, uncertain, 
 and the moment it ceased and the legislature reduced the 
 earnings to a reasonable sum the great value of the fran- 
 chises would be at once and unfavorably affected, but how 
 much so it is not possible for us now to see. The value 
 would most certainly not increase. The question of the 
 regulation of rates did from time to time thereafter arise 
 in the legislature, and finally culminated in these acts 
 which were in existence w^hen the court below found this 
 increased value of the franchises. We cannot, in any view 
 of the case, concur in that finding. 
 
 This increase in value did, however, form part of the 
 sum upon which the court below held the complainant was 
 entitled to a return. That court found the value of the 
 
SOME JUDICIAL DECISIONS 457 
 
 tangible assets actually employed at the time of the com- 
 mencement of this suit in the business of supplying gas 
 by the complainant to be $47,831,435, to which it added 
 the $12,000,000 as the value of the franchises as found by 
 it, making the total of $59,831,435 upon which it held that 
 the company was entitled to a return of 6 per cent, being 
 $3,589,886.10. It also found its total net income for the year 
 1905 amounted to $5,881,192.45, almost 10 per cent upon 
 the sum above named. Altering the finding of the court 
 so far only as to place the value of the franchises at the 
 time agreed upon in 1884, $7,781,000, the total value upon 
 that basis of the property employed by the company would 
 be $55,612,435, upon which 6 per cent would be $3,336,- 
 746.10, while the sum, estimated as the return on eighty- 
 cent gas would have been $3,024,592.14, which is nearly 5^ 
 per cent on the above total of $55,612,435. 
 
 What has been said herein regarding the value of the 
 franchises in this case has been necessarily founded upon 
 its own peculiar facts, and the decision thereon can form 
 no precedent in regard to the valuation of franchises gen- 
 erally, where the facts are not similar to those in the case 
 before us. We simply accept the sum named as the value 
 under the circumstances stated. 
 
 There is no particular rate of compensation which must 
 in all cases and in all parts of the coimtry be regarded as 
 sufficient for capital invested in business enterprises. Such 
 compensation must depend greatly upon circumstances and 
 locality; among other things, the amount of risk in the 
 business is a most important factor, as well as the locality 
 where the business is conducted and the rate expected 
 and usually realized there upon investments of a somewhat 
 similar nature with regard to the risk attending them. 
 There may be other matters which in some cases might 
 also be properly taken into account in determining the rate 
 which an investor might properly expect or hope to receive 
 and which he would be entitled to without legislative inter- 
 
458 SOME JUDICIAL DECISIONS 
 
 ference. The less risk, tlie less right to any Tinusual re- 
 turns upon the investments. One who invests his money 
 in a business of a somewhat hazardous character is very 
 properly held to have the right to a larger return without 
 legislative interference, than can be obtained from an in- 
 vestment in government bonds or other perfectly safe se- 
 curity. The man that invested in gas stock in 1823 had 
 a right to look for and obtain, if possible, a much greater 
 rate upon his investment than he who invested in such 
 property in the city of New York years after the risk and 
 danger involved had been almost entirely eliminated. 
 
 In an investment in a gas company, such as complain- 
 ant's, the risk is reduced almost to a minimum. It is a 
 corporation, which in fact, as the court below remarks, 
 monopolizes the gas service of the largest city in America, 
 and is secure against competition under the circumstances 
 in which it is placed, because it is a proposition almost 
 unthinkable that the city of New York would, for purposes 
 of making competition, permit the streets of the city to 
 be again torn up in order to allow the mains of another 
 company to be laid all through th^tn to supply gas which 
 the present company can adequately supply. And, so far 
 as it is given us to look into the future, it seems as certain 
 as anything of such a nature can be, that the demand for 
 gas will increase, and, at the reduced price, increase to 
 a considerable extent. An interest in such a business is 
 as near a safe and secure investment as can be imagined 
 wdth regard to any private manufacturing business, al- 
 though, it is recognized at the same time that there is a 
 possible element of risk, even in such a business. The 
 court below regarded it as the most favorably situated gas 
 business in America, and added that all gas business is 
 inherently subject to many of the vicissitudes of manu- 
 facturing. Under the circumstances, the court held that 
 a rate which would permit a return of 6 per cent would 
 be enough to avoid the charge of confiscation, and for the 
 
SOME JUDICIAL DECISIONS 459 
 
 reason that a return of such an amount was the return 
 ordinarily sought and obtained on investments of that de- 
 gree of safety in the city of New York. 
 
 Taking all facts into consideration, we concur with the 
 court below on this question, and think complainant is 
 entitled to 6 per cent on the fair value of its property 
 devoted to the public use. But assuming that the company 
 is entitled to 6 per cent upon the value of its property 
 actually used for the public, the total value fixed by the 
 court below is, as we have seen, much too large. We must 
 first strike out the increased value of the franchises as- 
 serted by the court over the amount agreed upon in 1884, 
 when the companies were consolidated. We also find that 
 the total value of the tangible property is made up of sev- 
 eral items, two of which are — 
 
 Real estate $11,985,435 
 
 Plants 15,000,00 
 
 Both depend largely upon the opinions of expert wit- 
 nesses as to the value of that kind of property. Where a 
 large amount of the total value of a mass of different prop- 
 erties consists in the value of real estate, which is only 
 ascertained by the varying opinions of expert witnesses, 
 and where the opinions of the plaintiffs' witnesses differ 
 quite radically from those of the defendants', it is apparent 
 that the total value must necessarily be more or less in 
 doubt. It, in other words, becomes matter of speculation 
 or conjecture to a great extent. It may be, as already sug- 
 gested, that in many cases the rates objected to might be 
 so low that there could be no reasonable doubt of their 
 inadequacy upon any fair estimate of the value of the prop- 
 erty. In such event the enforcement of the rates should 
 be enjoined even in a case where the value of the property 
 depends upon the value to be assigned to real estate by the 
 evidence of experts. But there may be other cases where 
 the evidence as to the probable result of the rates in con- 
 troversy would show they were so nearly adequate that 
 
460 SOME JUDICIAL DECISIONS 
 
 nothing but a practical test could satisfy the doubt as to 
 their sufficiency. 
 
 In this case a slight reduction in the estimated value 
 of the real estate, plants and mains, as given by the wit- 
 nesses for complainant, would give a 6 per cent return 
 upon the total value of the property as above stated. And 
 again, increased consumption at the lower rate might re- 
 sult in increased earnings, as the cost of furnishing the 
 gas would not increase in proportion to the increased 
 amount of gas furnished. 
 
 Tlie elevated railroads in New York when first built 
 charged ten cents for each passenger, but when the rate 
 was reduced to five cents it is common knowledge that 
 their receipts were not cut in two, but that from increased 
 patronage the earnings increased from year to year, and 
 soon surpassed the highest sum ever received upon the 
 ten-cent rate. 
 
 Of course, there is always a point below which a rate 
 could not be reduced and at the same time permit the proper 
 return on the value of the property, but it is equally true 
 that a reduction in rates will not always reduce the net 
 earnings, but on the contrary may increase them. The 
 question of how much an increased consumption under a 
 less rate will increase the earnings of complainant, if at 
 all, at a cost not proportioned to the former cost, can be 
 answered only by a practical test. In such a case as this, 
 where the other data upon which the computation of the 
 rate of return must be based, are from the evidence so 
 uncertain, and where the margin between possible confisca- 
 tion and valid regulation is so narrow we cannot say there 
 is no fair or just doubt about the truth of the allegation 
 that the rates are insufficient. 
 
 The complainant also contends that the state having 
 taxed it upon its franchises cannot be heard to deny their 
 existence or their value as taxed. 
 
 The fact that the state has taxed the company upon 
 
SOME JUDICIAL DECISIONS 461 
 
 its franchises at a greater value than is awarded them here, 
 is not material. Those taxes, even if founded upon an 
 erroneous valuation, were properly treated by the company 
 as part of its operating expense, to be paid out of its earn- 
 ings before the net amount could be arrived at applicable 
 to dividends, and if such latter sums were not sufficient 
 to permit the proper return on the property used by the 
 company for the public then the rate would be inadequate. 
 The future assessment of the value of the franchises, it 
 is presumed, will be much lessened if it is seen that the 
 great profits upon which that value was based are largely 
 reduced by legislative action. In that way the consumer 
 will be benefited by paying a reduced sum (although in- 
 directly) for taxes. 
 
 We are also of opinion that it is not a case for a valu- 
 ation of ''good- will." The master combined the franchise 
 value with that of good-will, and estimated the total value 
 at $20,000,000. 
 
 The complainant has a monopoly in fact, and a con- 
 sumer must take gas from it or go without. He will resort 
 to the ''old stand," because he cannot get gas anywhere 
 else. The court below excluded , that item, and we concur 
 in that action. 
 
 And we concur with the court below in holding that the 
 value of the property is to be determined as of the time 
 when the inquiry is made regarding the rates. If the prop- 
 erty, which legally enters into the consideration of the 
 question of rates, has increased in value since it was ac- 
 quired, the company is entitled to the benefit of such in- 
 crease. This is, at any rate, the general rule. We do not 
 say there may not possibly be an exception to it, where 
 the property may have increased so enormously in value 
 as to render a rate permitting a reasonable return upon 
 such increased value unjust to the public. How such facts 
 should be treated is not a question now before us, as this 
 case does not present it. We refer to the matter only for 
 
462 SOME JUDICIAL DECISIONS 
 
 the purpose of stating that the decision herein does not 
 prevent an inquiry into the question when, if ever, it should 
 be necessarily presented. 
 
 The matter of the increased cost of the gas, resulting 
 from the provisions of the acts, as to making the gas equal 
 to 22 candle-power, is also alleged as a reason for inade- 
 quacy of rate. 
 
 It appears that th6 average candle-power actually pro- 
 duced in the first six months of the year 1905 was 22, while 
 but 20 candle-power was exacted by law, and for the last 
 six months of that year, while 22 candle-power was ex- 
 acted, the average amount was 24.19. This expense was 
 included in the operating expense of that year, which re- 
 sulted in the net earnings above mentioned, while the com- 
 pany was complying with the requirements of the act in 
 this particular. 
 
 It is unnecessary, therefore, to further inquire as to 
 the additional expense caused by this requirement. 
 
 Again, it has been asserted that the laws are unconsti- 
 tutional, because of the provision as to pressure, and also 
 by reason of the penalties which a violation of the acts 
 may render a corporation liable to. 
 
 The acts provide that the pressure of the gas in ser^dce 
 mains at any distance from the place of manufacture shall 
 not be less than one inch or more than two and a half 
 inches. 
 
 The evidence shows that to put a pressure such as is 
 demanded by the acts upon the mains and other service 
 pipes in their present condition would be to run a great 
 risk of explosion, and consequent disaster. Before com- 
 pliance with this provision would be safe the mains and 
 other pipes would have to be strengthened throughout their 
 whole extent, and at an expenditure of many millions of 
 dollars, from which no return could be obtained at the rates 
 provided in the acts. This would take from the complain- 
 ant the ability to secure the return to which it is entitled 
 
SOME JUDICIAL DECISIONS 463 
 
 upon its property, used for supplying gas, and the provi- 
 sions as to the amount of pressure is therefore void. This 
 particular duty imposed by the acts is, however, clearly 
 separable from the enactments as to rates, and we have 
 no doubt that the remainder of the statute would have 
 been enacted, even with that provision omitted. 
 
 The obligation would remain upon the company to have 
 a pressure sufficient to insure a light of 22 candle-power, 
 as provided in the acts. 
 
 We are of the same opinion as to the penalties provided 
 for a violation of the acts. They are not a necessary or 
 inseparable part of the acts, without which they would 
 not have been passed. If these provisions as to penalties 
 have been properly constructed by the court below, they 
 undoubtedly are void, within the principle decided in Ex 
 parte Young, 209 IT. S. 123, and the cases there cited, be- 
 cause so enormous and overwhelming in their amount. 
 
 When the objectionable part of a statute is eliminated, 
 if the balance is valid and capable of being carried out, 
 and if the court can conclude it would have been enacted 
 if that portion which is illegal had been omitted, the re- 
 mainder of the statute thus treated is good. (Reagan v. 
 Trust Co., 154 U. S. 362, 395; Berea College v. Common- 
 wealth of Kentucky, 211 IT. S. 45, 54.)' This is a familiar 
 principle. 
 
 Lastly, it is objected that there is an illegal discrimina- 
 tion as between the city and the consumers individually. 
 We see no discrimination which is illegal or for which good 
 reasons could not be given. But neither the city nor the 
 consumers are finding any fault with it, and the only in- 
 terest of the complainant in the question is to find out 
 whether, by the reduced price to the city, the complainant 
 is upon the whole unable to realize a return sufficient to 
 comply with what it has the right to demand. What we 
 have already said applies to the facts now in question. 
 
 We cannot see from the whole evidence that the price 
 
464 SOME JUDICIAL DECISIONS 
 
 fixed for gas supplied to the city by the wholesale, so to 
 speak, would so reduce the profits from the total of the 
 gas supplied as to thereby render such total profits insuffi- 
 cient as a return upon the property used by the complain- 
 ant. So long as the total is enough to furnish such return 
 it is not important that with relation to some customers 
 the price is not enough. (Minneapolis, etc., v. Minnesota, 
 186 U. S. 257; Atlantic Coast Line v. North Carolina Com- 
 mission, 206 U. S. 1.) 
 
 Upon a careful consideration of the case before us we 
 are of opinion that the complainant has failed to sustain 
 the burden cast upon it of showing beyond any just or fair 
 doubt that the acts of the legislature of the State of New 
 York are in fact confiscatory. 
 
 It may possibly be, however, that a practical expe- 
 rience of the effect of the acts by actual operation under 
 them might prevent the complainant from obtaining a fair 
 return, as already described, and in that event complain- 
 ant ought to have the opportunity of again presenting its 
 case to the court. To that end we reverse the decree, with 
 directions to dismiss the bill without prejudice, and 
 
 It is so ordered. 
 
THE BALANCE SHEET OF A RAILWAY 
 
 INTRODUCTORY LETTER. 
 
 Interstate Commerce Commission, 
 Bureau of Statistics and Accounts, 
 
 Washington, June 21, 1909, 
 
 To Carriers Concerned : 
 
 The Form of General Balance Sheet Statement pro- 
 mulgated . . . will be incorporated in the Forms for 
 Annual Report of Carriers to the Interstate Commerce 
 Commission for the year ending June 30, 1910, unless modi- 
 fied by an order of the Commission before that date. In 
 any case, carriers whose current accounts are kept in such 
 a manner as to enable them to report on the balance-sheet 
 statement herewith promulgated will be able to make any 
 balance-sheet statement which the Commission may finally 
 accept as satisfactory. 
 
 There will shortly be issued a Special Report Series 
 Circular calling for the adjustment of assets and liabil- 
 ities as of June 30, 1909, to the form of balance-sheet 
 statement promulgated under the present order, with a 
 view of (testing its practicability and of collating all dif- 
 ficulties incident to its use. Any modification, should 
 modification be thought desirable, will be made as the 
 result of this test. 
 
 Henry C. Adams, 
 In charge of Statistics and Accounts. 
 
 FORM OF GENERAL BALANCE SHEET STATEMENT. 
 
 Assets. 
 Property Owned as Investment: 
 I. Physical Property Owned — 
 
 465 
 B— VIII— 8p 
 
466 A RAILWAY BALANCE SHEET 
 
 1-A. Road and Equipment to June 30, 1907 — 
 
 (a) Road. 
 
 (b) Equipment. 
 
 1-B. Road and Equipment since June 30, 1907 — 
 
 (a) Road. 
 
 (b) Equipment. 
 
 (c) General Expenditures. 
 n. Securities Owned — 
 
 2. Securities of Proprietary, Affiliated, and Con- 
 
 trolled Companies — Pledged — 
 
 (a) Stocks. 
 
 (b) Funded Debt. 
 
 (c) Miscellaneous. 
 
 3. Securities Issued or Assumed — ^Pledged--^ 
 
 (a) Stocks. 
 
 (b) Funded Debt. 
 '(c) Miscellaneous. 
 
 '4. Securities of Proprietary, Affiliated, and Con- 
 trolled Companies — Unpledged—^ 
 (a) Stocks. 
 '(b) Funded Debt. 
 
 (c) Miscellaneous. 
 m. Investments — ■ 
 
 5. Advances to Proprietary, Affiliated, and Con- 
 
 trolled Companies for Construction, Equip- 
 ment, and Betterments. 
 
 6. Other Permanent Investments — ' 
 
 (a) Physical Property. 
 
 (b) Securities. 
 Working Assets: 
 
 7. Cash. 
 
 8. Marketable Securities^- 
 
 A. Securities Issued or Assumed — ^Unpledged — 
 (a) Stocks. 
 '(b) Funded Debt, 
 (c) Miscellaneous. 
 
A RAILWAY BALANCE SHEET 467 
 
 B. Other Marketable Securities— 
 
 (a) Stocks. 
 
 (b) Funded Debt. 
 
 (c) Miscellaneous. 
 
 9. Loans and Bills Receivable. 
 
 10. Net Traffic, Car Mileage, and Per Diem Balance. 
 
 11. Net Balance Due from Agents and Conductors. 
 
 12. Miscellaneous Accounts Receivable. 
 
 13. Materials and Supplies. 
 
 14. Other Working Assets. 
 Deferred Debit Items: 
 
 15. Advances — 
 
 (a) Advances to Proprietary, Affiliated, and Con- 
 trolled Companies. 
 
 (b) Working Funds. 
 
 (c) Other Advances. 
 
 16. Insurance Premiums Paid in Advance. 
 
 17. Taxes Paid in Advance. 
 
 18. Discount on Securities Issued — ■■ 
 
 (a) Discount on Stock. 
 
 (b) Discount on Funded Debt. 
 
 19. Property Abandoned, Chargeable to Operating 
 
 Expenses. 
 
 20. Cash and Securities in Sinking and Redemption 
 
 Funds. 
 
 21. Cash and Securities in Insurance and Other Spe- 
 
 cial Funds. 
 
 22. Cash and Securities in Special Trust Funds. 
 
 23. Items in Suspense. 
 Deficit: 
 
 24. Profit and Loss — ^Balance. 
 
 Liabilities. 
 Stock: 
 
 25. Capital Stock — 
 
 (a) Common Stock. 
 
468 A RAILWAY BALANCE SHEET 
 
 (b) Preferred Stock. 
 
 (c) Debenture Stock. 
 
 26. Receipts Outstanding for Capital Stock. 
 
 27. Stock Liability for Conversion of Outstanding Se- 
 
 curities of Constituent Companies. 
 
 28. Premium Realized on Capital Stock Sold. 
 Mortgage, Bonded, and Secured Debt: 
 
 29. Funded Debt— 
 
 (a) Mortgage Bonds. 
 
 (b) Collateral Trust Bonds. 
 
 (c) Plain Bonds, Debentures, and Notes. 
 
 (d) Income Bonds. 
 
 (e) Equipment Trust Obligations. 
 
 (f) Miscellaneous Funded Obligations. 
 
 30. Receipts Outstanding for Funded Debt. 
 
 31. Premium Realized on Funded Debt Sold. 
 
 32. Receivers' Certificates. 
 
 33. Obligations for Advances Received for Construc- 
 tion, Equipment, and Betterments. 
 
 Working Liabilities: 
 
 34. Loans and Bills Payable. 
 
 35. Net Traffic, Car Mileage, and Per Diem Balance. 
 
 36. Audited Vouchers and Wages Unpaid. 
 
 37. Miscellaneous Accounts Payable. 
 
 38. Matured Dividends, Interest, and Rents Unpaid. 
 
 39. Matured Mortgage, Bonded, and Secured Debt 
 Unpaid. 
 
 40. Working Advances Due to Otber Companies. 
 
 41. Other Working Liabilities. 
 Accrued Liabilities Not Due: 
 
 42. Dividends Declared and Interest and Rents Ac- 
 
 crued, Not Due. 
 
 43. Taxes Accrued. 
 Deferred Credit Items: 
 
 44. Operating Reserves — 
 
 (a) Reserves for Replacement of Property. 
 
A RAILWAY BALANCE SHEET 469 
 
 (b) Eeserves for Other Purposes. 
 
 45. Liability on Account of Special Trust Funds. 
 
 46. Items in Suspense. 
 Appropriated Surplus: 
 
 47. Surplus Reserves — 
 
 (a) Reserves Invested in Sinking and Redemp- 
 tion Funds. 
 
 (b) Reserves Invested in Insurance and Other 
 Special Funds. 
 
 (c) Reserves Not Specifically Invested. 
 
 48. Additions to Property through Income since 
 
 June 30, 1907. 
 Free Surplus: 
 
 49. Profit and Loss — Balance. 
 
 TEXT EXPLANATORY OF BALANCE SHEET 
 
 ACCOUNTS. 
 
 Assets. 
 
 Property Owned as Investment. 
 
 I. Physical Property Owned. 
 
 1-A. Road and Equipment to June 30, 1907. 
 
 This account should include the balances carried 
 in the General Ledger showing the value of Road 
 and Equipment as it stood on June 30, 1907, sub- 
 divided between (a) Road and (b) Equipment, when 
 the subdivision can be accurately made. 
 
 1-B. Road and Equipment since June 30, 1907. 
 
 This account should include amounts expended 
 and charged in accordance with the Classifications 
 of Expenditures for Road and Equipment and Ex- 
 penditures for Additions and Betterments since 
 June 30, 1907. These amounts should be subclassi- 
 fied: (a) Road, (b) Equipment, (c) General Expend- 
 itures. 
 
 II. Securities Owned. 
 
470 A RAILWAY BALANCE SHEET 
 
 2. Securities of Proprietary, Affiliated, and Con- 
 trolled Companies — ^Pledged. 
 This account should include the book value of 
 securities of proprietary, affiliated, and controlled 
 companies whose property is used by or forms a 
 part of the railway system of the respondent com- 
 pany, which securities are pledged as collateral se- 
 curity for any of the respondent company's funded 
 debt or other outstanding obligations. It should in- 
 clude securities of union depot, terminal, bridge, 
 ferry, and similar companies owned by the respond- 
 ent company and pledged to secure its outstanding 
 obligations when the property of those companies 
 is used by the respondent company in the transac- 
 tion of its own transportation business. 
 
 Amounts reported in this account should be classi- 
 fied under the subheadings : (a) Stocks, (b) Funded 
 Debt, (c) Miscellaneous. 
 
 See text of accounts Nos. 25 and 29 for descrip- 
 tion of items classed as ** Capital Stock" and *' Fund- 
 ed Debt." Among the items that should be classed 
 as ** Miscellaneous" are receivers' certificates and de- 
 mand or short-time notes issued by proprietary com- 
 panies, which do not come within the character of 
 obligations classed as funded debt. 
 9. Securities Issued or Assumed — Pledged. 
 
 This account should include the book value of se- 
 curities issued by the respondent company, and se- 
 curities issued by other companies, payment having 
 been assumed by the respondent company, which 
 have been pledged as collateral for other securities 
 issued by the respondent company. 
 
 The par value of securities reported under this 
 caption should be included in the amount of capital 
 stock or funded debt of the respondent company 
 
A RAILWAY BALANCE SHEET 471 
 
 under general account ''Stock" or ** Mortgage, Bond- 
 ed, and Secured Debt." 
 
 Amounts reported under this caption should be 
 classified under the subheadings: (a) Stocks, (b) 
 Funded Debt, (c) Miscellaneous. 
 
 See text of account No. 25, "Capital Stock," and 
 No. 29, ''Funded Debt," for description of items 
 classed under subheadings (a) Stocks and (b) Fund- 
 ed Debt. Under subheading (c) Miscellaneous 
 should be grouped the balances representing issued 
 or assumed obligations (other than stocks, bonds, or 
 certificates of indebtedness maturing more than one 
 year after date of issue) which are owned by the 
 respondent company and pledged by it as collateral 
 security. 
 
 Note. — This account is not intended to cover securities 
 guaranteed only. 
 
 4. Securities of Proprietary, Affiliated, and Controlled 
 Companies — Unpledged. 
 
 This account should include the book value of un- 
 pledged securities of proprietary, affiliated, or con- 
 trolled companies whose property is used by or forms 
 a part of the railway system of the respondent com- 
 pany, the securities being held for the purpose of 
 preserving the integrity of the system. There should 
 be included under this caption the book value of 
 investments in the securities of union depot, termi- 
 nal, bridge, ferry, and similar companies when the 
 property of those companies is used by the respond- 
 ent company in the transaction of its own transpor- 
 tation business and said securities are in its treasury 
 unpledged. 
 
 Amounts reported in this account should be classi- 
 fied under the subheadings: '(a J Stocks, (h) Funded 
 Debt, (c) Miscellaneous. 
 
472 A RAILWAY BALANCE SHEET 
 
 See text of account No. 2 for description of items 
 classed as Miscellaneous. 
 
 Note. — This account is not intended to cover securities 
 guaranteed only, or any deemed by the respondent company as 
 "Marketable Securities." 
 
 m. Investments. 
 
 5. Advances to Proprietary, Affiliated, and Controlled 
 Companies for Construction, Equipment, and 
 Betterments. 
 
 Except as provided below, there should be included 
 in this account all cash advances made to proprie- 
 tary, affiliated, and controlled companies to enable 
 said companies to pay for construction, equipment, 
 and additions and betterments, which advances may 
 be carried in open accounts by the respondent com- 
 pany. When the companies to which said advances 
 are made issue notes or other securities to the re- 
 spondent company for the payment of said advances, 
 the cost of said notes or securities should be trans- 
 ferred from this account to account No. 2, if said 
 securities are pledged as collateral for obligations 
 issued, or to be issued, by the respondent company, 
 or to account No. 4 if held unpledged. 
 
 In case advances are made to proprietary, affili- 
 ated, or controlled companies for the purposes above 
 mentioned, with the understanding and intention 
 that the advances shall be liquidated by the company 
 to which made, either in cash realized from the issu- 
 ance and sale of its own securities, or by the issuance 
 of securities to the respondent company, which the 
 latter may sell or hold in its treasury as free assets 
 at its pleasure, the amounts so advanced should be 
 included in account No. 15, ** Advances." 
 G. Other Permanent Investments. 
 
 (ay Physical Property. — This account should in- 
 clude investments in property not used for railway 
 purposes or outside operations, such as coal and other 
 
A RAILWAY BALANCE SHEET 473 
 
 mines, timber lands, sawmills, hotels (not a part of 
 the railway property) with their furniture and fit- 
 tings, buildings and property used for commercial 
 purposes; land scrip acquired for the purpose of 
 locating upon and securing title to public lands; in- 
 vestments in property not used for railway purposes 
 and for which no titles or securities for titles are 
 held; and other property that has been acquired in 
 anticipation of future necessity or use, but which 
 is not at present a part of the carrier's property 
 used in carrying on its transportation business or 
 outside operations. 
 
 (b) Securities — This account should include invest- 
 ments in the securities of steamship lines, express 
 companies, or other enterprises which it is necessary 
 or desirable for the respondent company to control 
 or to be interested in for the purpose of maintain- 
 ing the integrity of its transportation system, pro- 
 vided such securities be not considered ^'Marketable 
 Securities" (account No. 8). This account should 
 also include securities, not provided for in accounts 
 Nos. 2, 3, and 4, and may be pledged in connection 
 with mortgage, bonded, and secured debt (see ac- 
 counts Nos. 29 and 33) ; also memberships in boards 
 of trade and other commercial organizations when 
 such memberships have a permanent value. 
 Working Assets. 
 
 7. Cash. 
 
 This account should include current funds in the 
 hands of financial officers and agents, deposits in 
 banks or trust companies available for use on de- 
 mand, including deposits to pay declared dividends 
 or matured coupons, and cash in transit for which 
 agents and conductors receive current credit. 
 
 8. Marketable Securities. 
 
 This account should include the cost or book value 
 
474 A RAILWAY BALANCE SHEET 
 
 of all securities which are held in the company's 
 treasury unpledged and free for sale and which it 
 is not necessary or desirable for the respondent com- 
 pany to hold for the purpose of maintaining the 
 integrity of its railway system. Such securities 
 should be subdivided to show: 
 
 A. Securities held in the treasury of the respond- 
 ent company, w^hether securities of its own issue or 
 securities the payment of which it has assumed. 
 
 B. Other securities. 
 
 These securities should be further classified as 
 stocks, funded debt, and miscellaneous. 
 
 Note. — The par value of securities entered under A should be 
 included under accounts Nos. 25 and 29, "Capital Stock" and 
 "Funded Debt." 
 
 9. Loans and Bills Receivable. 
 
 This account should include the book value of all 
 collectible obligations in the form of loans and bills 
 receivable or other similar evidences of money receiv- 
 able on demand or within a time not exceeding one 
 year. 
 
 Note. — This does not include time loans which mature more 
 than one year after date of issue, considered as investrnents, or 
 loans to proprietary, affiliated, or controlled companies, such 
 as are described under accounts Nos. 5 and 15a. 
 
 10. Net Traffic, Car Mileage, and Per Diem Balance. 
 This account should include the net amounts due 
 
 from other companies on account of interline freight 
 and ticket balances and balances resulting from the 
 interchange of cars on a per diem or a mileage basis. 
 Amounts due to the owners of private cars for per 
 diem or mileage on cars should be considered the 
 same as amounts due to other railway companies. 
 
 11. Net Balance Due from Agents and Conductors. 
 This account should include the net balance due 
 
 in current accounts from agents, and train, sleeping- 
 car, and dining-car conductors, train auditors, por- 
 ters, and others. Amounts advanced to general and 
 
A RAILWAY BALANCE SHEET 475 
 
 special agents as working funds should not be in- 
 cluded. 
 
 12. Miscellaneous Accounts Receivable. 
 
 This account should include amounts due for 
 audited accounts, such as those due from the United 
 States or other governments for transportation of 
 mails and government property, and from express 
 companies for express facilities furnished under con- 
 tract; miscellaneous bills against other railway com- 
 panies, corporations, firms, and individuals; ground 
 rents collectible; interest collectible on bills and ac- 
 counts receivable, and on mortgages, deposits, and 
 securities; and other similar items. 
 
 Note. — The amount to be reported under this account is not 
 the net balance between accounts Nos. 13 and 37. 
 
 13. Materials and Supplies. 
 
 This account should include the balances repre- 
 senting the value of all unapplied material, and the 
 value of material temporarily in use and not charged 
 out, such as articles in process of manufacture by 
 the company; telegraph and telephone material; fuel; 
 stationery; dining-car supplies, etc. 
 
 14. Other Working Assets. 
 
 This account should include items of working as- 
 sets not covered by accounts Nos. 7 to 13, inclusive. 
 It is intended to include asset items that have not 
 reached the stage of audited accounts properly 
 classed under account No. 12, "Miscellaneous Ac- 
 counts Receivable," and yet have been advanced be- 
 yond the stage of accounts properly classed under 
 account No. 23, "Items in Suspense." This account 
 includes such items as fijaes imposed by postal au- 
 thorities in process of collection from parties at fault ; 
 amounts due from other roads for mileage or tickets 
 honored for which reports or accounts have not been 
 rendered or received; advanced charges billed out 
 
476 A RAILWAY BALANCE SHEET 
 
 on waybills not reported received at the end of the 
 month, and similar items. 
 Deferred Debit Items. 
 15. Advances. 
 
 (a) Advances to Proprietary, Affiliated, and Con- 
 trolled Companies. — This account should include 
 amounts advanced to proprietary and subsidiary 
 companies for purposes other than construction, 
 purchase of equipment, or additions and betterments, 
 as provided for in account No. 5. It should include 
 advances on open account for the purpose of pay- 
 ing interest on the funded debt of proprietary or 
 subsidiary companies, deficits resulting from the 
 operations of such companies, and other advances 
 not to be included in capital account and not repre- 
 sented by the physical property of said proprietary 
 or subsidiary companies. 
 
 There should also be included in this subdivision 
 amounts advanced to proprietary, affiliated, or con- 
 trolled companies to enable such companies to pay 
 construction, equipment, and additions and better- 
 ments expenditures when it is the understanding or 
 intention that the advances shall be liquidated by 
 the company to which made, either in cash realized 
 from the issuance and sale of its securities, or by 
 the issuance of its securities to the company making 
 the advances, which securities the latter company 
 may sell or hold in its treasury as free assets at its 
 pleasure, it being considered not necessary that the 
 company receiving said securities shall hold them 
 for the purpose of maintaining the integrity of its 
 railway system. (See accounts N"os. 2, 3, and 4). 
 
 (b) Working Funds. — This account should in- 
 clude amounts advanced to general and special 
 agents, officers and employes of the engineering de- 
 partment, and other officers and employes as work- 
 
A RAILWAY BALANCE SHEET 477 
 
 ing funds from which certain expenditures are to 
 be made and accounted for by the persons to whom 
 the advances are made. It also includes advances 
 to fast freight lines and union depot and other ter- 
 minal companies as working funds to be used in 
 paying the current expenses of such companies in 
 advance of regular monthly settlements. 
 
 (c) Other Advances. — This account should include 
 other advances not properly classified under (a) and 
 (b) above or under account No. 5, *' Advances to 
 Proprietary, Affiliated, and Controlled Companies for 
 Construction, Equipment, and Betterments." 
 
 16. Insurance Premiums Paid in Advance. 
 
 This account should include the debit balances rep- 
 resenting premiums paid in advance for fire, boiler, 
 accident, plate glass, liability, and kindred insurance, 
 to be absorbed by monthly charges to operating ex- 
 penses and outside operations during the term of 
 the insurance. 
 
 il7. Taxes Paid in Advance. 
 
 This account should include the excess of taxes 
 paid over the proportion accrued against the income 
 of the period covered. 
 
 18. Discount on Securities Issued. 
 
 (a) Discount on Stock. — ^When stocks, included 
 under account No. 25 at their par value, are issued 
 or sold at a discount, the discount should be reported 
 in this account and, if the stock is not to be retired 
 or converted, carried on the balance sheet perma- 
 nently or until extinguished by premiums realized 
 on subsequent sales of the same class of stock. If 
 the stock is to be retired or converted, the discount 
 should be charged to Profit and Loss or against the 
 premium realized, if any, at the date of such retire- 
 ment or conversion. 
 If the premium in account No. 28, '^Premium 
 
478 A RAILWAY BALANCE SHEET 
 
 Realized on Capital Stock Sold," is less in amount 
 than the discount included in this account, it should 
 be deducted herefrom and the net amount included 
 in this account. If the premium in account No. 28 
 is greater than the discount charged in this account, 
 the discount should be deducted therefrom and the 
 difference included in account No. 28. 
 
 (b) Discount on Funded Debt. — When bonds are 
 Issued or sold at a discount they should be included 
 in account No. 29, *' Funded Debt," at their par 
 value. The discount should be charged to Income 
 in such equal annual installments during the life of 
 the bonds as will extinguish the discount. The car- 
 rier may, however, at its option, charge to Profit 
 and Loss all of the discount or any part of it remain- 
 ing at any time unextinguished; but the charge to 
 Income in any one year must not exceed the amount 
 of the annual installment applicable to that year. 
 The discount remaining unextinguished should be in- 
 cluded in this account. 
 
 If the premium in account No. 31, ^^ Premium 
 Realized on Funded Debt Sold," is less in amount 
 than the discount included in this account, it should 
 be deducted herefrom and the net amount reported 
 in this account. If the premium in account No. 31 
 is greater than the discount charged in this account, 
 the discount should be deducted from the premium 
 and the difference included in account No. 31. 
 19. Property Abandoned, Chargeable to Operating 
 Expenses. 
 
 This account is intended as a suspense account to 
 which may be charged certain costs representing im- 
 portant pieces of property abandoned in the course 
 of improvement or betterment work when the cost 
 of such property would, if included in the operating 
 expenses for a single year, unduly burden such ac- 
 
A RAILWAY BALANCE SHEET 479 
 
 counts for that year. It is to be used only after per- 
 mission of the Interstate Commerce Commission has 
 been asked and given and is not to be applied to 
 lands abandoned or equipment retired from service. 
 Amounts included herein are to be redistributed to 
 operating expenses through a period of years, the 
 number of which will be determined when permission 
 to use the account is granted. 
 
 To this account may be charged the cost, less sal- 
 vage, of replacing in kind any of the following prop- 
 erty: Station buildings, enginehouses, turntables, 
 shop buildings, and terminal yards, including build- 
 ings and other structures therein, removed or aban- 
 doned in the course of replacing them with improved 
 structures or facilities; bridges and trestles aban- 
 doned by reason of replacing them with structures 
 of greater capacity or permanency; injterlocking ap- 
 paratus abandoned in the course of eliminating grade 
 crossings or of other improvements ; block and other 
 signal apparatus replaced with improved apparatus ; 
 and fuel stations, grain elevators, storage ware- 
 houses, docks, wharves, light and power plants, and 
 all other important miscellaneous structures aban- 
 doned in the course of replacing them with enlarged! 
 or improved property. 
 
 To this account may also be charged the cost, less 
 salvage, of main line and sidings, including track 
 material abandoned by reason of change of line or 
 location; and the cost, less salvage, of rails, track 
 fastenings, and frogs and switches released from 
 track on account of relaying with heavier rails. For 
 the purposes of this account the cost of replacing 
 rails, track fastenings, and frogs and switches should 
 be computed upon the basis of the cost of replac- 
 ing the original weight of ,the rails, track fastenings, 
 
480 A RAILWAY BALANCE SHEET 
 
 and frogs and switches, at tlie price per ton paid for 
 the material put in anew. 
 
 This account may also include the cost of remov- 
 ing old material and all other incidental expenses 
 directly connected with the abandonment of prop- 
 erty the cost of which is included in this account. 
 
 Note A. — The amount charged to this account for property- 
 abandoned should be concurrently credited to the appropriate 
 accounts under Additions and Betterments. 
 
 Note B. — The phrase "unduly burden such accounts," used 
 above, should not be interpreted as meaning that a carrier is at 
 liberty to make charges for abandoned property directly to 
 Operating Expenses, or to Operating Expenses through the ac- 
 count "Property Abandoned, Chargeable to Operating Expen- 
 ses," in view of its financial ability to make such charges 
 directly in one year and its inability to make such charges in 
 ' another year. It should be remembered that the charges in- 
 
 I eluded in Operating Expenses are designed to cover the current 
 
 cost of maintaining and operating the property, and that the 
 Property Abandoned accounts are designed to cover any un- 
 usual expenditures from year to year. 
 
 20. Cash and Securities in Sinking and Eedemption 
 i Funds. 
 
 This account should include the amount of cash 
 and the cost or book value of live securities in the 
 hands of trusitees of sinking and other funds for the 
 purpose of redeeming outstanding obligations. Any 
 live securities of the respondent company held by 
 such trustees should be included in the amounts re- 
 ported under the appropriate subheadings of account 
 No. 25, ^'Capital Stock," or account No. 29, ^'Funded 
 Deb,t." 
 
 21. Cash and Securities in Insurance and Other Spe- 
 
 cial Funds. 
 This account should include the ledger balances 
 covering the amount of cash and the cost of securi- 
 ties in the hands of trustees or managers of insurance 
 funds, pension funds, and other funds that have been 
 raised by the carrier for specific purposes (except 
 special trust funds and sinking funds for the retire- 
 ment of obligations). The amount reported in this 
 
A RAILWAY BALANCE SHEET 481 
 
 account should agree with the amount reported in 
 account No. 47b, '^Keserves Invested in Other Spe- 
 cial Funds." 
 
 22. Cash and Securities in Special Trust Funds. 
 This account should include the ledger balances 
 
 covering ,the amount of cash and the cost of securi- 
 ties in the hands of trustees or managers of em- 
 ployes' savings funds, relief, hospital, and other asso- 
 ciation funds when such trustees or managers are 
 acting for the carrier in the administration of such 
 funds. If such funds are held in the carrier's treas- 
 ury not invested and uniden,tified they should be in- 
 cluded in account No. 7, '^Cash." The amount re- 
 ported in this account should agree with the amount 
 reported in account No. 45, *' Liability on Account 
 of Special Trust Funds." 
 
 23. Items in Suspense. 
 
 In this account should be included suspense ac- 
 counts showing debit balances that cannot be en- 
 tirely cleared and disposed of until additional infor- 
 mation is received, such as freight claims paid when 
 found to be correct but in advance of investigation 
 with other carriers; charges for work done or ma- 
 terials furnished for which bills have not been re- 
 ceived from the proper departments ; items awaiting 
 adjustment between accounts, such as cost of work 
 done in advance of receipt of proper authority or 
 appropriation; accounts covering the cost of opera- 
 tion of gravel pits and quarries to be apportioned 
 on output; debit balances in *^Shop Expense" and 
 ** Store Expense" accounts; also accounts to be 
 spread over a stated term not provided for in ac- 
 count No. 18 or elsewhere; and debit balances in 
 operating reserve accounts to be cleared by; future 
 charges to operating expenses. 
 
 »— VIII— 31 " 
 
482 A RAILWAY BALANCE SHEET ' 
 
 Deficit. 
 
 24. Profit and Loss — Balance. 
 
 In case the debit balance in the profit and loss 
 account is less than the total of accounts Nos. 47 
 and 48, under the caption ''Appropriated Surplus," 
 the amounts of these accounts should be stated in 
 short column on the credit side of the balance sheet 
 and the total brought down. From this total should 
 be deducted the profit and loss debit balance and 
 the net amount remaining should be extended as 
 ''Profit and Loss — Balance" under "Free Surplus." 
 If, however, the debit balance of the profit and loss 
 account is in excess of the total of accounts Nos. 47 
 and 48 the amount of these accounts should be stated 
 in short column on the debit side of the balance sheet 
 and the total deducted from the profit and loss 
 debit balance, the difference being shown as "Profit 
 and Loss — Balance" under "Deficit." 
 
 Liabilities. 
 Stock. 
 
 25. Capital Stock. 
 
 In this account should be entered the full amount 
 of the capital stock issued and outstanding, whether 
 all or any part of same is held by the public, by 
 other railway companies, in the company's treasury, 
 pledged or unpledged, or by the trustees of sinking 
 or other funds for the redemption of outstanding 
 obligations, or for other special purposes. The 
 amounts entered in this account should be subdivided 
 as follows: 
 
 (a) Common Stock. — The par value of eonomon 
 stock issued and outstanding. 
 
 (b) Preferred Stock. — The par value of first, sec- 
 ond, or other preferred stock issued and outstand- 
 ing. 
 
A RAILWAY BALANCE SHEET 483 
 
 '(c) Debenture ^tock. — The par value of debenture 
 stock issued and outstanding. 
 
 Note. — Capital stock is considered as "issued" when cer- 
 tificates are signed, sealed, and placed with the proper officer 
 for sale and delivery. All capital stock issued and not canceled 
 is considered to be "outstanding." 
 
 26. Eeceipts Outstanding for Capital Stock. 
 
 When capital stock is sold, to be paid for in in- 
 stallments, the amounts received in such install- 
 ments should be included in this account. When 
 such stock has been paid for in full, and the receipts 
 given for the installments paid are surrendered in 
 exchange for regular stock certificates, the par value 
 should be included under the appropriate subdivision 
 of account No. 25, "Capital Stock." The premium, 
 if any, realized on such capital stock should be dis- 
 posed of as provided in the text of account No. 28, 
 "Premium Realized on Capital Stock Sold," while 
 the discount, if any, should be disposed of as pro- 
 vided in the text of account No. 18a, "Discount on 
 Stock." 
 
 27. Stock Liability for Conversion of Outstanding 
 
 Securities of Constituent Companies. 
 This account should include the company's liabil- 
 ity under agreements to exchange its capital stock 
 for the outstanding securities of constituent com- 
 panies whose physical property has been acquired 
 under such agreements, but whose securities have 
 not yet been surrendered for exchange. 
 
 28. Premium Realized on Capital Stock Sold. 
 When stocks, included in account No. 25, "Capital 
 
 Stock," at their par value, are issued or sold at a 
 premium, the premium realized should be reported 
 in this account and, if the stock is not to be retired 
 or converted, carried on the balance sheet perma- 
 nently or until extinguished by discounts on subse- 
 quent sales of the same class of stock. If the stock 
 
484 A RAILWAY BALANCE SHEET 
 
 is to be retired or converted, the premium should 
 be either credited to Profit and Loss or against the 
 discount, if any, suffered at the date of such retire- 
 ment or conversion. 
 
 If the discount in account No. 18a, ^'Discount on 
 Stock, ' ' is less in amount than the premium included 
 in this account, it should be deducted herefrom and 
 the net amount included in this account. If the dis- 
 count in account No. 18a is greater than the premium 
 credited in this account, the premium should be de- 
 ducted therefrom and the difference included in ac- 
 count No. 18a. 
 Mortgage, Bonded, and Secured Debt. 
 29. Funded Debt. 
 
 There should be entered in this account the full 
 amount of funded debt issued by the respondent 
 company and outstanding, or issued by other com- 
 panies and outstanding when the payment of such 
 securities has been assumed by the respondent com- 
 pany, whether all or any portion of said funded debt 
 is held by the public, by other railway companies, 
 in the company's treasury, pledged or unpledged, 
 held uncanceled by the trustees of sinking funds to 
 retire outstanding obligations issued or assumed by 
 the respondent company, or held by the trustees of 
 any other special funds created for the benefit of 
 the respondent company. 
 
 The amounts included in this account should be 
 subdivided as follows: 
 
 (a) Mortgage Bonds. — Bonds secured by a lien on 
 the property of the company, except as provided in 
 the other subdivisions of this account. 
 
 (b) Collateral Trust Bonds. — Bonds secured by; 
 lien on securities or other commercial paper. Stock 
 trust certificates that are similar in character to col- 
 lateral trust bonds should be included under this 
 
A RAILWAY BALANCE SHEET 485 
 
 heading, as should also short-time collateral trust 
 notes. 
 
 (c) Plain Bonds, Debentures, and Notes. — Unse- 
 cured certificates of indebtedness. Short-time notes 
 (having a life of one year or less) given in payment 
 of temporary indebtedness should not be included 
 under this heading. Short-time notes secured by col- 
 lateral should be classed with collateral trust bonds. 
 Debentures should be clearly distinguished from de- 
 benture stock. 
 
 (d) Income Bonds.— Bonds which are a lien on a 
 carrier's revenue alone, or bonds which, while being 
 a lien on its road and franchises, can claim payment 
 of interest only in case interest is earned. 
 
 (e) Equipment Trust Obligations. — Equipment 
 bonds, equipment notes, or car trust notes secured 
 by a lien on specific equipmeAt, such lien having been 
 created in connection with the acquisition of the 
 equipment securing the obligation. 
 
 (f ) Miscellaneous Funded Obligations. — All other 
 funded obligations not provided for by the other sub- 
 divisions of this account, including real-estate mort- 
 gages executed or assumed by a carrier, and other 
 similar obligations. 
 
 Note A. — Bonds are considered "issued" when they are 
 certified by trustees and placed with the proper officer for sale 
 and delivery. "Outstanding bonds" include all bonds issued and 
 not canceled. 
 
 Note B. — This account is not intended to cover securities 
 when the payment of either principal or interest has been 
 guaranteed only, 
 
 30. Receipts Outstanding for Funded Debt. 
 
 When funded debt is sold, to be paid for in install- 
 ments, the amounts received in such installments 
 should be included in ^this account. Upon final pay- 
 ment of purchase price and the surrender of receipts 
 given for the installments paid in exchange for the 
 regular securities, the par value of the funded debt 
 
486 A RAILWAY BALANCE SHEET 
 
 so issued should be transferred to the proper sub- 
 division of account No. 29, ''Funded Debt." The 
 premium realized, if any, should be disposed of as 
 provided in the text of account No. 31, "Premium 
 Realized on Funded Debt Sold," while the discount, 
 if any, should be disposed of as provided in the text 
 of account No. 18b, "Discount on Funded Debt." 
 
 31. Premium Realized on Funded Debt Sold. 
 When bonds are issued or sold at a premium, they 
 
 should be included under account No. 29, "Funded 
 Debt," at their par value. The premium should be 
 credited to Income in such equal annual installments 
 during the life of the bond as will extinguish the 
 premium. A carrier may, however, at its option, 
 credit to Profit and Loss such premium or any part 
 of it at any time unextinguished; but the credit to 
 Income in any one year must not exceed the amount 
 of the annual installment applicable to that period. 
 The premium remaining unextinguished should be 
 reporjted in this account. 
 
 If the discount in account No. 18b, "Discount on 
 'Funded Debt," is less in amount than the premium 
 included in this account, it should be deducted here- 
 from and the neit amount included in this account. 
 If the discount in account No. 18b is greater than 
 the premium credited in this account, the premium 
 should be deducted from the discount and the differ- 
 ence included in account No. 18b. 
 
 32. Receivers' Certificates. 
 
 This account should include the par value of out- 
 standing certificates, notes, or other obligations 
 issued by receivers in charge of and operating the 
 property of a carrier, and the par value of certifi- 
 cates, notes, or other obligations issued by receivers 
 and assumed upon reorganization. 
 
A RAILWAY BALANCE SHEET 487 
 
 33. Obligations for Advances Received for Construc- 
 
 tion, Equipment, and Betterments. 
 Proprietary, affiliated, and controlled companies 
 should show in this account the amounts advanced 
 to them for construction, equipment, and additions 
 and betteraients expenditures. These amounts, if ad- 
 vanced by another carrier, should be reported by it 
 in account No. 5, "Advances to Proprietary, Affili- 
 ated, and Controlled Companies for Construction, 
 Equipment, and Betterments." 
 Working Liabilities. 
 
 34. Loans and Bills Payable. 
 
 This account should include the balances repre- 
 senting obligations outsitanding in the form of loans 
 and bills payable or other similar evidences of money 
 borrowed, payable on demand or within a time not 
 exceeding one year, which are not properly classed 
 under account No. 29, "Funded Debt." 
 
 35. Net Traffic, Car Mileage, and Per Diem Balance. 
 This account should include the net amounts due 
 
 to other companies on account of interline freight 
 and ticket balances and balances resulting from 
 interchange of cars on a per diem or a mileage basis. 
 Amounts due to the owners of private cars for per 
 diem or mileage on cars should be considered the 
 same as amounts due to other railway companies. 
 
 36. Audited Vouchers and Wages Unpaid. 
 
 This account should include the amount of audited 
 vouchers or accounts and audited pay-rolls unpaid 
 on the date of the balance sheet. It should include 
 unclaimed wages and outstanding pay and time or 
 discharge checks issued in payment of wages. 
 
 37. Miscellaneous Accounts Payable. 
 
 There should be included in this account unpaid 
 and outstanding drafts drawn by station agents, un- 
 paid and outstanding drafts drawn on the company 
 
488 A RAILWAY BALANCE SHEET 
 
 in settlement of freight claims, conductors' rebate 
 and extra-fare checks not presented for redemption, 
 meal checks and tickets ouitstanding, deposits of con- 
 trolled companies, and other items of the nature of 
 demand liabilities not covered by accounts Nos. 34, 
 35, 36, 38, and 39. 
 
 Note. — The amount to be reported under this account is not 
 the net balance between accounts Nos. 12 and 37. 
 
 38. Matured Dividends, Interest, and Rents Unpaid. 
 This account should include the amount of divi- 
 dends payable on capital stock and unpaid, uncalled 
 for, or unclaimed at the date of the balance sheet. 
 Including dividends payable on the first day of the 
 month following that for which the balance sheet 
 is made ; the amount of matured and unpaid interest 
 on the funded debt of the respondent company, 
 and of other companies when payment has been as- 
 sumed by the respondent company, including inter- 
 est which matures on the first day of the month fol- 
 lowing that for which the balance sheet is made; 
 unpaid dividends on the stock and unpaid interest 
 on the funded debt of other companies when same 
 are payable by the respondent company as all or a 
 portion of the rent due under leases; and all other 
 rents due under leases which have become payable. 
 
 39. Matured Mortgage, Bonded, and Secured Debt 
 
 Unpaid. 
 This account should include the amount of ma- 
 tured mortgage, bonded, and secured debt payable 
 but not yet paid, including bonds drawn for redemp- 
 tion through the operation of sinking and redemp- 
 jtion fund agreements. Obligations which mature on 
 the first day of the month following that for which 
 the balance sheet is made should be included in this 
 account. 
 
 40. Working Advances Due to Other Companies, 
 
A RAILWAY BALANCE SHEET 489 
 
 Proprietary, affiliated, and controlled companies 
 should include in this account the amounts advanced 
 to them for general purposes, such as advances to 
 pay interest on their funded debt not included in 
 account No. 33, ** Obligations for Advances Eeceived 
 for Construction, Equipment, and Betterments," def- 
 icits resulting from their operation, and advances 
 for construction, equipment, and additions and bet- 
 terments, when such advances are made under the 
 conditions Sitated in account No. 15a, ^'Advances to 
 Proprietary, Affiliated, and Controlled Companies," 
 and when that account is used to report the advances 
 by the company making them. 
 
 41. Other Working Liabilities. 
 
 This account should include items of worldng lia- 
 bilities not covered by accounts Nos. 34 to 40, in- 
 clusive. It should include liability items that have 
 not reached the stage of audited liabilities and be- 
 come actually payable, yet are obligations of the 
 company and advanced beyond the stage of accounts 
 properly classed under account No. 46, ''Items in 
 Suspense," such as retained percentages due con- 
 tractors to be paid on completion of contracts; de- 
 posits for construction of side tracks, to be refunded 
 on the basis of an agreed percentage of the earnings 
 from the traffic handled over the tracks; prepaid 
 charges billed out on waybills not taken into the 
 month's accounts ; and other similar items. It should 
 include also balances to the credit of employes' sav- 
 ings funds, and relief, hospital, and other association 
 funds when such funds are held unidentified in the 
 carrier's treasury and are included in account No. 7, 
 ''Cash." 
 Accrued Liabilities Not Due. 
 
 42. Dividends Declared and Interest and Rents Ac- 
 
 crued, Not Due. 
 
490 A RAILWAY BALANCE SHEET 
 
 This account should include the amount of divi- 
 dends on capital stock, interest on funded debt, in- 
 cluding interest on funded debt assumed, and rents 
 under leases, accrued to the date for which the bal- 
 ance sheet is made but not payable until after the 
 first day of the following month. There should be 
 included also as ''rents accrued" the amount of ac- 
 crued dividends on the stock and accrued interest 
 on the funded debt of other companies when such 
 dividends and interest are paid as all or a portion of 
 the rent under leases from those companies. 
 
 43. Taxes Accrued. 
 
 This account should include the amount of taxes 
 accrued and charged against income in excess of the 
 amount paid. When the respondent company leases 
 the property of another company and, under the 
 terms of the lease, agrees to pay or assume the taxes 
 that may be levied upon or assessed against such 
 property, the taxes accrued on such property should 
 be included in this account and not in account No. 42. 
 "When, however, the taxes are paid by the lessor 
 company, the full amount of cash rent to be paid by 
 the lessee should be included in account No. 42. 
 Deferred Credit Items. 
 
 44. Operating Reserves. 
 
 This account should include the ledger balances in 
 the reserves created to cover past depreciation of 
 property; reserves created since July 1, 1907, by 
 charges to Operating Expenses to cover accrued de- 
 preciation of equipment and of way and structures 
 when a plan for such purpose has been adopted by 
 the carrier; reserves created by charges to Operating 
 Eevenues or to Operating Expenses to provide for 
 overcharge, personal injury, insurance, and other 
 claims ; and similar reserves. The credits in this ac- 
 count should be subdivided as follows: 
 
A RAILWAY BALANCE SHEET 491 
 
 Xa)' Reserves for Replacemen(t of Property. 
 
 (b) Reserves for Other Purposes. 
 
 The credit balance in sinking fund reserve ac- 
 count should not be included in this account. See 
 account No. 47a, ^^ Reserves Invested in Sinking and 
 Redemption Funds.'' 
 
 45. Liability on Account of Special Trust Funds. 
 This account should include the ledger balances 
 
 covering the amount of cash and the cost of securi- 
 ities in the hands of trustees or managers of employes ' 
 savings funds, relief, hospital, and other association 
 funds, when such trustees or managers are acting 
 for the carrier in the administration of such funds. 
 The amount reported in this account should agree 
 with the amount reported in account No. 22, ''Cash 
 and Securities in Special Trust Funds." 
 
 46. Items in Suspense. 
 
 Under this caption should be included suspense 
 accounts showing credit balances that cannot be 
 entirely cleared and disposed of until additional in- 
 formation is received, such as collections by general 
 agents and others to cover prepayment of shipments 
 originating on lines of other carriers; amounts real- 
 ized from sale of damaged, unclaimed, and over 
 freight and held pending claim; switching charges 
 of other carriers collected and held awaiting bills 
 from such carriers; amounts received from sale of 
 mileage tickets to be disposed of as mileage is hon- 
 ored by the respondent or other carriers; amounts 
 collected for milling-in-transit privileges, to be 
 cleared when products are shipped; credit balances 
 in ''Shop Expense" and "Store Expense" accounts; 
 and other similar items. 
 Appropriated Surplus. 
 
 47. Surplus Reserves. 
 
 In this account should b'e grouped all appropria- 
 
492 A RAILWAY BALANCE SHEET 
 
 tions of surplus (except as covered by account 
 No. 48), including imexpended balances of appropri- 
 ations for additions and bcitterments. The account 
 should be subdivided under the following heads : 
 
 (a) Reserves Invested in Sinking and Redemption 
 Funds. 
 
 Amounts charged against Income Account for 
 sulking fund payments; accretions to sinking funds 
 in the hands of trustees; also amounts realized and 
 turned over to sinking fund trustees or used in the 
 purchase of outstanding obligations either by sink- 
 ing fund trustees or by the respondent company, 
 when such sums are realized from other sources than 
 the company's income. All credits to this account 
 (to cover amounts turned over to sinking fund trust- 
 tees, and all accretions to sinking funds collected by 
 trustees, should be debited to the account with such 
 trustees in account No. 20. 
 
 (b) Reserves Invested in Other Special Funds. 
 
 (c) Reserves Not Specifically Invested. 
 
 48. Additions to Property through Income since June 
 
 30, 1907. 
 This account should include the cost of property 
 acquired by expenditures of appropriations from 
 Income since June 30, 1907, whether such expendi- 
 tures are for new lines or for additions and better- 
 ments to existing lines. The amount standing to 
 the credit of this account should be included in th6 
 amount reported under account No. 1-B, **Road and 
 Equipment since June 30, 1907." 
 Free Surplus. 
 
 49. Profit and Loss — Balance. 
 
 This account should include the balance, if any, 
 standing to the credit of the profit and loss account. 
 
 When there is a debit balance in the profit and 
 loss account, but such balance does not exceed the 
 
A RAILWAY BALANCE SHEET 493 
 
 total credit balance of accounts Nos. 47 and 48, the 
 latter are to be stated in short column, the toital 
 brought down, and the debit balance of account 
 No. 49 deducted therefrom, the difference being ex- 
 tended to the total column as the net appropriated 
 surplus. When the debit balance standing in ac- 
 count No. 49 exceeds the total credit balance of ac- 
 counts Nos. 47 and 48, the accounts are to be stated 
 as prescribed in the text of account No. 24. 
 
SECTION G. 
 THE ACCOUNTS OF A TELEPHONE COMPANY.* 
 
 I. Objects of Accounting Scheme. 
 
 A suitable scheme of accounting for the Bell Tele- 
 phone System must attain these objects. 
 
 1. It must be uniform in its essential and fundamental 
 features so that the results of the business can be com- 
 pared and combined. 
 
 2. It must be elastic in details so as to furnish at the one 
 extreme the simple information needed with respect to 
 the numerous small exchanges and at the other extreme 
 the great and complicated variety of information needed 
 with respect to a large city system with every degree 
 of greater or less detail for the conditions between 
 these extremes. 
 
 3. It must be sound in principle so as to meet the most rigid 
 scrutiny of investors and public authorities. 
 
 4. It must conform to organization so as to associate the 
 strong and weak spots with the individuals responsible 
 for them. 
 
 5. It must be practicable in application, speedy in opera- 
 tion and dependable in results. 
 
 II. Limitations. 
 
 A bare statement of these objects to be obtained sug- 
 gests at once not merely the difficulties to be expected 
 in constructing such a scheme of accounts but also cer- 
 tain natural limitations which must be respected or the 
 scheme will fall of its own weight. A brief reference 
 to some of these limitations may assist in the general 
 understanding of the work as a whole. 
 
 1. A scheme of accounts is a distribution of the financial 
 
 * Reprinted by permission of Charles G. DuBois, Comptroller of American 
 Telephone & Telegraph Company. 
 
 494 _j 
 
TELEPHONE COMPANY ACCOUNTS 495 
 
 transactions of tlie business into classes, and attempts 
 to define those classes. Now, figures, whether accurate 
 or inaccurate, are from their nature precise. They do 
 not qualify themselves nor express shades of meaning. 
 Language on the other hand as commonly used is not 
 very exact. Words that are equivalent in one connec- 
 tion express shades of meaning or even different mean- 
 ings when used in another connection. Even technical 
 accounting terms have not yet come to have exact and 
 authoritative meanings and even though accounting 
 terms be arbitrarily defined for our use, the definitions 
 of classes of transactions must further be expressed in 
 words and phrases which can be understood, not only 
 by telephone men but generally by men accustomed to 
 considering any business transactions. 
 
 It follows that definitions, whether in general or 
 technical language, will not always convey exactly the 
 same meanings to all the people who may use them. 
 
 Every financial transaction has to go through the 
 books and its classification has to be decided. Such 
 transactions, as do not clearly fall under some one defini- 
 tion, have therefore to be specially adjudicated. 
 
 An accounting scheme, as laid down in our account- 
 ing circular, forms only the nucleus or foundation 
 around which must be gathered interpretations and de- 
 cisions on many specific cases, which decisions come in 
 time to be a part of the accounting scheme. 
 2. Changes in operating conditions increase the difficulty 
 of uniformity. Sometimes, for instance, it appears 
 more important to make the accounting for a certain 
 kind of transactions conform to the organization than 
 to have it uniform in different organizations, though in 
 general I believe uniformity is the paramount object to 
 be sought. 
 ^. Comparisons of present periods with previous periods 
 are important as a guide to the changes in results which 
 
496 TELEPHONE COMPANY ACCOUNTS 
 
 are taking place, but too rigid adherence to this prin- 
 ciple would mean that the accounting could not be de- 
 veloped to keep pace with the business. 
 
 4. The indirect relations of things, which as already sug- 
 gested can only be imperfectly expressed in figures, are 
 always likely to be under-estimated or misinterpreted 
 from a superficial study of financial reports, and this 
 is particularly true of figures for geographical areas, 
 in the telephone business where every local area is con- 
 nected with every other. 
 
 5. In taking up one after another the various transactions 
 in the telephone business, it may seem as if each one 
 were sufficiently important to warrant its inclusion in 
 the accoimting sj^stem, but when these are all listed 
 it will appear that the variety of information is too 
 great for any one administrative officer to consider and 
 understand from month to month, or that if he does 
 so he thereby loses a grasp on the results as a whole. 
 
 While the true remedy for this lies largely in the 
 perfection of organization with a view to pushing infor- 
 mation and authority further and further down the line, 
 yet the elaboration of accounts on such lines can only 
 gradually be justified as this administrative process 
 goes gradually on. 
 
 6. Other limitations relate to the mechanics of bookkeep- 
 ing and the limited clerical facility of people in the field 
 dealing with the primary transactions. I hold that a 
 very high degree of clerical accuracy can be attained 
 in the field without difficulty or increased expense, pro- 
 vided the classes of transactions with which any one 
 employe deals are few in number and are defined in 
 the language to which he is accustomed. This is none 
 the less a real limitation to the logical development 
 of accounts. 
 
TELEPHONE COMPANY ACCOUNTS 497 
 
 III. Method of Constructing Scheme of Accounts. 
 
 All of this means of course that we have had to deal 
 with the problem without forgetting on the one hand the 
 objects to be attained, and on the other the dangers to be 
 avoided and the limitations to be respected. 
 
 There was a respectable amount of information to serve 
 as a guide in constructing our scheme of accounts. In the 
 first place we had the present scheme of accounts generally 
 followed by the Telephone Companies. This represents a 
 gradual development of such accounts as were shown by 
 experience to be particularly useful. It has few, if any, 
 faults that could be called fundamental. The chief criti- 
 cism has been that it lacked adaptation to administrative 
 purposes. The natural course then was to get the consen- 
 sus of opinion of telephone men generally as to the re- 
 vision and amplification of the present scheme. For this 
 purpose the advice of Engineers, Accountants and Plant, 
 Traffic, Commercial and Administrative Officers in all 
 parts of the country was sought on the various phases of 
 the work with which they were most familiar. Confer- 
 ences were held and reports, suggestions and data were 
 gathered. The work along similar lines attempted by 
 other public service corporations was reviewed and in this 
 connection the comprehensive and admirable scheme of 
 railway accounts established by the Interstate Commerce 
 Commission was found particularly useful. At the same 
 time the various text-books on accounts particularly those 
 relating to modem accounting principles and practice were 
 consulted. After all this preliminary work a first draft 
 of our proposed scheme was prepared and submitted gen- 
 erally to Bell Telephone Officials throughout the country 
 for comment and criticism. As these comments and criti- 
 cisms were received they were sifted and discussed, as a 
 result of which the scheme was several times revised and 
 
 B— VIII— 32 
 
498 TELEPHONE COMPANY ACCOUNTS 
 
 finally the last revision was issued as Accounting Circu- 
 lar No. 6. 
 
 IV. Scope of Accounting Circular No. 6. 
 
 This circular brings together in one publication our 
 present judgment as to the accounts needed by a telephone 
 company with the definitions of those accounts. 
 
 It may be readily adapted to the use of small sub- 
 licensees and connecting companies by using generally the 
 main accounts (which are printed in black faced type) per- 
 haps substituting for Commercial and Traffic Expenses and 
 to some extent for General Expenses the corresponding 
 sub-accounts given under the clearing account Non-Func- 
 tional Exchange Expenses. This would depend on the or- 
 ganization of the company in question. 
 
 The sub-accounts, many of which are optional, give the 
 information needed by larger companies of various sizes 
 and conditions up to the largest and most complicated, 
 while still more detailed information may be obtained by 
 the use of any additional sub-accounts that may be desired 
 for special needs. 
 
 An important feature of the scheme is the code num- 
 bers provided for all accounts and the method provided 
 for getting statistical information by divisions, districts 
 or even exchanges should it be desired. The extent to 
 which this is to be carried is simply a question of the ex- 
 pense of the clerical work compared with the value of the 
 information at any time or place. 
 
 In the following discussion of the accounts I shall so 
 far as possible, even at the risk of some crudeness, endeavor 
 to avoid the use of technical accounting language or when 
 using such expressions, will try to explain them as I go 
 along. 
 
 Any scheme of accounts must deal with four main 
 groups, viz.: — the Assets, the Liabilities, the Revenue and 
 the Expenses. 
 
TELEPHONE COMPANY ACCOUNTS 499 
 
 By assets at any date we mean generally the property ex- 
 isting at that date. 
 By liabilities at any date we mean generally the debts ow- 
 ing at that date including the company's obligations 
 to its stockholders for their respective shares in the 
 business. 
 By revenue for any period we mean generally what the 
 company has received or is entitled to receive for its 
 services during that period. 
 By expenses for any period we mean generally the cost 
 to the company of conducting its business for that 
 period. 
 
 The asset or property accounts and the expenses 
 always appear as debit or charge accounts on the books. 
 The liabilities and 'the earnings always appear as 
 credit accounts on the books. 
 
 The distinction between assets and expenses (both 
 being debit accounts) though easy to define is not always 
 easy to maintain in practice. It is of vital consequence 
 however since the net results of the business for any period 
 cannot otherwise be known and the attention of accountants 
 is largely directed to safeguarding this point. The familiar 
 form which confusion on this distinction takes is reflected 
 in the expression ''Construction has been charged items 
 that ought to have gone to Maintenance" or vice versa. 
 
 V. Plant. 
 
 The preponderant property of an operating tele- 
 phone company is of course that known as Plant or 
 Construction. 
 1. Value at which Property is Carried. 
 
 Before taking up the various classes of Plant it is 
 worth while to consider the proper basis for the figures 
 carried on the books to represent the value of this and 
 other property. 
 
 It may be said that theoretically property accounts 
 
500 TELEPHONE COMPANY ACCOUNTS 
 
 should show what it would cost to replace the property 
 with equivalent new property and that against this 
 should be carried contra or liability accounts for the 
 deterioration that has taken place, the difference be- 
 tween the two accurately representing the present value 
 of the property. In practice this is not feasible nor 
 altogether desirable; first, because to determine it would 
 call for frequent inventories the expense of which as 
 respects plant would be prohibitive; second, the de- 
 terioration that has taken place is, as anyone can readily 
 see, impossible of any accurate determination; and 
 third, it is advantageous to know currently what plant 
 has cost rather than what it would now cost. The prac- 
 tical procedure is to exercise great care in making addi- 
 tions to plant accounts at the true cost of such addi- 
 tions, verifying this by inventory at intervals of several 
 years. On the other hand provision should be made 
 out of earnings to represent depreciation as it takes 
 place as nearly as this can be estimated, this provision 
 being set aside or reserved to be used for future re- 
 placement. An estimate of depreciation is properly 
 based on the probable life of different classes of plant, 
 allowing for the net value of the salvage expected to be 
 recovered. Unfortunately the data on which such esti- 
 mates can be based is still incomplete, chiefly because 
 some classes of plant of the general character now in 
 use have not yet shown in experience their probable 
 age limits. 
 
 The study of depreciation is of itself almost a life 
 work and one of the most profound importance, for 
 whether a telephone company is making or losing money 
 may depend solely on the rate of depreciation. Our 
 scheme of accounts is now arranged so as to provide 
 accurate statistics as to what plant is actually being 
 built and replaced, so that in a few years we shall have 
 valuable data on the various doubtful points. In the 
 
TELEPHONE COMPANY ACCOUNTS 501 
 
 meantime we aim to follow the best information we 
 now have or can get as reflected in the opinions of those 
 who have had most experience with the subject. 
 
 The true cost of additions to plant is somewhat diffi- 
 cult to ascertain because the construction of new and 
 the removal of old plant are continuous processes to 
 which nearly every department lends a hand, but we 
 are satisfied that reasonable accuracy can be attained 
 by the methods provided. 
 2. General Classes of Plant. 
 
 The Bell Companies have for many years followed 
 the practice of building their own plants and of classi- 
 fying them so as to show the cost of the different classes. 
 In Accounting Circular No. 6 we retain the classes that 
 have come to have a definite meaning to many people 
 both in and out of the business but we now group these 
 classes somewhat differently than heretofore. 
 
 After considering the subject from various stand- 
 points it seems to us that there are four general classes 
 of plant — 
 
 Real Estate, 
 Equipment, 
 Exchange Lines, 
 Toll Lines. 
 5. Real Estate. 
 
 Real Estate is easily distinguished from other plant, 
 it usually has a separate taxation status, it is the basis 
 for computing rent charges, and it seems for these 
 reasons desirable to keep it in a separate account. 
 4. Equipment. 
 
 Equipment is distinguished from Exchange Lines 
 and Toll Lines because of its character as reflected in 
 the common expressions "inside plant" and '* outside 
 plant." 
 
 Under Equipment there are two great classes: — 
 Central Offices and Subscribers' Stations, between which 
 
502 TELEPHONE COMPANY ACCOUNTS 
 
 there is an important distinction not only in location 
 but in permanence of location. 
 
 The station appartus is constantly moving from one 
 place to another. This constitutes a heavy burden on 
 the telephone business, but it is one of the things that 
 makes the service valuable. It is worth something to 
 every telephone patron to know that when he or other 
 patrons move from one residence or office to another 
 their telephone service is not discontinued. The con- 
 stant shifting of industry and residence and the tear- 
 ing down and rebuilding going on in our cities is fre- 
 quently remarked but the public is so habituated to 
 the convenience of having terminal telephones imme- 
 diately provided to keep up with this shifting that its 
 value is seldom considered. But a little reflection shows 
 its great value not only to the subscriber who moves 
 but perhaps even more to all the subscribers who may 
 want to communicate with him. 
 
 Eoughly of every five stations in service at the be- 
 ginning of a year one goes out of seTOce during the 
 year, or in other words the average period a station 
 remains in service is about five years. Even this does 
 not include moving the station from one location to 
 another for the same subscriber nor changing the sub- 
 scriber without moving the station. While this station 
 shifting usually does not much affect the number con- 
 nected to one exchange and so does not throw out of 
 service much of the exchange lines or central office' 
 equipment it considerably a:ffccts the wires connecting 
 the station to the exchange lines, commonly called drop 
 wires or interior block wires which for this reason are 
 included with subscribers' station equipment in the 
 accounts. 
 
 The value and practicability of sub-accounts under 
 central office equipment and subscribers' station equip- 
 ment will vary with the conditions. All such sub- 
 
TELEPHONE COMPANY ACCOUNTS 503 
 
 accounts are therefore made optional but these optional 
 sub-accounts, like others, point the way I think to the 
 kinds of information that are more and more likely to 
 be found useful. For instance in studying the expense 
 caused by shifting of stations it will be of great assis- 
 tance to know how much of that plant is the set (which 
 is recovered) how much the cost of installation and in- 
 side wires (on which there is little recovery) and how 
 much the cost of drop wires (on which the chances of 
 recovery greatly vary though the recover if made is 
 likely to be complete). 
 
 5. Outside Plant. 
 
 In considering the outside plant the most important 
 distinction, that between Aerial and Underground, indi- 
 cates the character and development of the plant, its 
 degree of permanence, and has much significance when 
 comparing original cost and cost of repair. 
 
 6. Distinctions Between Exchange and Toll Plant. 
 
 While this distinction and others have become com- 
 monly accepted as important in the business other dis- 
 tinctions once of great significance have, in some locali- 
 ties, lost some of their force. 
 
 ■For instance the distinction between exchange lines 
 and toll lines in the complicated systems centering at 
 the very large cities is difficult in practice, though in 
 the country as a whole it i)ossesses as great importance 
 as ever. 
 
 The question is raised why it is worth while to con- 
 tinue this distinction between exchange and toU lines, 
 since even though the lines can be divided, no practi- 
 cal accounting methods are known by which the entire 
 central office equipment and subscribers' station equip- 
 ment can be divided between exchange and toll. With- 
 out rehearsing the detail of the argument on both sides 
 of this interesting question, it is worth while to indi- 
 cate here the reasons for the conclusions reached. 
 
504 TELEPHONE COMPANY ACCOUNTS 
 
 In the first place, the distinction between excliange 
 and toll business has been observed from the beginning 
 and is still observed in making rates. Every rate 
 scheme seems to be based, and soundly so, on the princi- 
 ple that the subscribers' station, the line from the sta- 
 tion to the central office, the bulk of the central office 
 equipment, and finally the trunks connecting central 
 offices are built primarily for the purpose of transmit- 
 ting local or exchange messages. Each line is thus 
 mainly built and held ready for the subscriber's par- 
 ticular use. On all the plant just enumerated the sub- 
 scriber undertakes for a stated period, usually one year, 
 to pay for his exclusive service and a fair return on 
 the investment held for his exclusive use. For a toll 
 line however the subscriber commits himself to nothing. 
 It is built entirely at the company's risk, and it is very 
 difficult to forecast accurately what business can be ex- 
 pected for a new line, while the volume of business even 
 on long established lines fluctuates considerably. 
 
 It seems wise therefore to know the revenue from 
 such business and the cost of the lines that carry it, 
 even though it is difficult in certain cases to apply the 
 distinctions and even though it is impossible to dis- 
 tinguish the expenses applying to the exchange and the 
 toll service. 
 7. Eeasons for Classifying Plant. 
 
 The reasons for classifying plant may be thus 
 summarized: 
 
 (a) It is important to be able to analyze the invest- 
 ment in plant so as to help guard against includ- 
 ing anything therein which should go to expense. 
 
 (b) The proper treatment of the station moves would 
 be impracticable if station plant were not kept 
 distinct. 
 
 (c) No one unit suffices for a comparison of one plant 
 with another, because one plant may have more 
 
TELEPHONE COMPANY ACCOUNTS 505 
 
 underground lines or more toll lines than another. 
 (d) The analysis of certain expenses, for instance re- 
 pairs, is incomplete without knowledge as to the 
 cost of classes of plant, 
 (e)' Depreciation can be estimated more closely if fig- 
 ured by classes instead of at an average rate for 
 the whole. 
 [(f)' Any study of earnings and of rates, which are the 
 basis of earnings, depends largely on the charac- 
 ter of the plant. 
 XgJ The character and cost of new plant are guided 
 somewhat by experience with previous plant. 
 If these reasons are convincing the question natur- 
 ally arises and has been asked why we do not sub-divide 
 plant still further and so increase the advantages. The 
 answers to this are, first, that the plant already built 
 would have to be inventoried or appraised at once to 
 the finer sub-divisions, and second, that clerical accu- 
 racy in the field becomes more difficult with every addi- 
 tional plant account. For these two reasons various 
 proposals to extend the required plant classifications 
 were rejected and only the classes heretofore used are 
 to be required, but optional sub-accounts have been pro- 
 vided for most of the finer sub-divisions proposed. 
 8. Plant Measurements. 
 
 A subject deserving and constantly receiving more 
 attention and interest may be briefly referred to here 
 under the term Plant Unit Costs, by which we mean, 
 for instance, the cost of station equipment per station, 
 or of exchange underground plant per mile of wire, 
 and so on. The importance of such information ap- 
 pears when we compare one company with another or 
 study the effect of increasing wages and costs of ma- 
 terial. 
 
 These studies lead us naturally to consider how the 
 number of miles of wire, number of stations and so on 
 
506 TELEPHONE COMPANY ACCOUNTS 
 
 are being ascertained. At first thought one might say 
 that there could hardly be two opinions as to what con- 
 stitutes a mile of wire or a station. But on close analysis 
 we find we must define the point at which a wire begins 
 and ends, whether at the entrance to a building or at 
 the instrument, whether wire mileage includes the drop 
 wire or not, whether it includes any of the wiring in 
 the distributing frames and so on. Again are P. B. X. 
 operators' telephones and company service stations to 
 be classed as stations and so on? 
 
 Again in attempting to define a mile of pole line 
 and particularly to divide it between toll and exchange 
 when it may carry some toll wires for long distances, 
 varying numbers of exchange wires for varying dis- 
 tances and perhaps also a cable or two containing wires 
 some of which may be toll one month and exchange 
 
 the next, we have serious complications 
 
 VI. Working Assets. 
 
 The next general class of property, which for want of 
 a better name may be called Working Assets, comprises 
 office furniture and fixtures, tools and vehicles and supplies. 
 It is important to distinguish these three classes not 
 only so as to watch their increase more carefully but also 
 because the expenses that relate to them take different 
 courses. 
 
 It is better to carry the depreciation reserve for these 
 working assets in offsetting accoimts rather than as a de- 
 duction from the face of the account. The face value can be 
 known with some degree of accuracy, while the net value 
 is, like depreciation, a matter of estimate. In Supplies 
 it is not practicable to take material returned from plant 
 at its then estimated value and re-issue it at that value. 
 The practical way is to take in material fit for re-issue or 
 that can be made fit for re-issue at the cost of correspond- 
 ing new material, but to prevent carrying such used ma- 
 terial at more than its true value the reserve for depre- 
 
TELEPHONE COMPANY ACCOUNTS 507 
 
 ciation of supplies should be utilized. By the use of this 
 account, offsetting to some extent the property account 
 called Supplies, the used material can for accounting pur- 
 poses be carried at its face value in the property account 
 until its disposition or true value can be determined, and 
 meanwhile the net assets not be overstated. 
 
 Each of these three classes of property under Working 
 Assets has its corresponding expense account. 
 
 Furniture expense which comprises not only repairs and 
 changes to furniture, but also depreciation on furniture 
 and fixtures is a sub-account for each department. By the 
 methods provided in a standard routine known as Ac- 
 counting Bulletin 8 A the face value of all office furniture 
 and fixtures used by any department or any district may 
 be known periodically. The rate of depreciation having 
 been determined, it is a simple matter to charge each de- 
 partment monthly the depreciation on its own office furni- 
 ture and fixtures, while repairs or changes in such office 
 furniture and fixtures may go to the different departments 
 as incurred. It has seemed to some that this is an over- 
 elaborate treatment of a minor account. I am satisfied 
 that it will not prove to be so in practice, for this class 
 of property is one on which it is difficult to preserve the 
 truly economical course. Properly considered, furniture is 
 a tool and it is important on the one hand to have this tool, 
 like others, adapted to its purpose so as to get the greatest 
 value out of the time of the man who uses it. On the other 
 hand personal fancies and other influences that have no 
 bearing on efficiency have to be carefully avoided. The 
 same degree of efficient oversight should be given to furni- 
 ture and fixtures as to tools and vehicles. 
 
 Eepair shops which were formerly carried as a sepa- 
 rate class of property are now made a sub-account of Sup- 
 plies. This is for the reason that most of the important 
 repairs and nearly all the local repair shops have in the 
 last few years been turned over to the Western Electric 
 
608 TELEPHONE COMPANY ACCOUNTS 
 
 Company. In the few cases where repair shops are still 
 run by the telephone companies, it is important to keep 
 accounts on the lines commonly adopted by factories so 
 as to make up correct costs of different repair jobs. Shop 
 work and shop accounts are so different from the other 
 work of a telephone company that effective supervision 
 and information are apt to be lacking as compared with 
 the standards to which factory men are accustomed. 
 
 VII. Current Assets. 
 
 The next general class of property is comprised under 
 the term Current Assets, because it is either cash or is to 
 be converted into cash in the ordinary course of business. 
 
 The account Cash and Deposits needs no explanation. 
 
 Bills Receivable represent debts due the company for 
 which promissory notes are held, such notes being usually 
 on demand or for short terms. 
 
 Accounts Receivable likewise represents debts due the 
 company, the bulk of which it expects to collect in the usual 
 course, but for which it holds no acknowledgement of the 
 debtor. It is important to distinguish here the accounts 
 which for any reason have become doubtful of collection, 
 and it is common business practice to anticipate in the 
 bookkeeping the probable non-collection of some of the 
 doubtful accounts. While accounts are in the doubtful or 
 suspense stage there is no guide except experience as to 
 the amount that will probably not be collected. Of course 
 no accounts known to be uncollectible should be carried 
 as assexs. 
 
 The last class of these current assets is a grouping of 
 accounts known as Prepaid Expenses. These represent the 
 payments of expenses in advance of the periods to which 
 they pertain, as for instance insurance premiums may be 
 paid in the month of January covering insurance for the 
 entire year or even for several years. It would obviously 
 be unfair to charge all these premiums to the January 
 
TELEPHONE COMPANY ACCOUNTS 509 
 
 expenses, and in fact if the company should cancel its in- 
 surance before expiration it could collect part of the pre- 
 miums it had paid, so that to some extent the prepaid 
 expenses are convertible into cash. The case is not so 
 clear for treating some other prepaid expenses as if they 
 were convertible into cash but in general it is fair to con- 
 sider them as current assets because as to directories for 
 instance, since the company will unquestionably continue 
 in business during the period for which it has provided 
 directories, the amount of cash that will be needed to meet 
 its current obligations is reduced by the amount of this 
 prepaid directory expense. 
 
 Some objection has been made to considering receipts 
 from advertising in directories as a deduction from direc- 
 tory expense, it being suggested that it should be included 
 in the revenue. Our view is that the general purpose of 
 directory expense should govern the accounting. Since the 
 directory is an essential feature of the operation of a tele- 
 phone plant it follows that the advertising is sought wholly 
 for the purpose of reducing that expense. If the company 
 published directories as a separate business venture, which 
 it would discontinue should the venture pay no net return, 
 the accounting treatment would be different. 
 
 VIII. Securities Owned. 
 
 The last class of property, to which reference need here 
 be made, may be comprised under the general term Securi- 
 ties Owned. These are mostly stocks and bonds of allied 
 companies which may properly be carried at their cost so 
 long as such cost does not exceed the true value, or may 
 be inventoried from time to time and the property accoimt 
 corrected to the inventory value. 
 
 IX. Capital Obligations. 
 
 Turning now from the asset or property accounts to 
 
510 TELEPHONE COMPANY ACCOUNTa 
 
 the liability accounts which represent the source of the 
 funds with which the property has been purchased. 
 
 For convenience we may distinguish three general 
 classes of liabilities — 
 
 Capital Obligations, 
 Current Obligations, 
 Reserves and Surplus. 
 
 Capital Obligations are of several different forms, their 
 titles usually indicating their relative standing as liens 
 against the company's property. 
 
 Bonded Debt and Real Estate Mortgages are usually 
 first liens on the property. When such obligations fall 
 due they must be satisfied in some way even if the property 
 has to be sold under the hammer to raise the cash. 
 
 Bills Payable are sometimes ranked as current obliga- 
 tions because commonly they do not run very long; but on 
 closer analysis, I think (at least in the telephone business)' 
 they are usually temporary financing to provide additional 
 permanent property. On this theory I include them with 
 capital obligations. 
 
 As to the account Bills Receivable Discounted, the ques- 
 tion is occasionally asked why the books should show as an 
 obligation a promissory note to the company which it has 
 endorsed and sold to its bankei-s or someone else. The reas- 
 on is that so long as the company may be called on to pay 
 the note (which will happen in case the endorsement leaves 
 any recourse to the endorser and the giver of the note fails 
 to pay) the company has an obligation, and to clearly un- 
 derstand the company's financial status every liability, di- 
 rect or contingent, must be shown. Of course such notes 
 would also appear under Bills Receivable in the property 
 accounts. 
 
 The last and usually largest capital obligation is Cap- 
 ital Stock representing the ownership of the business. This 
 is always the last lien on the property or rather is no lien, 
 
TELEPHONE COMPANY ACCOUNTS 511 
 
 at all, but in a dissolution gets whatever is left after all oth- 
 er obligations are satisfied. 
 X. Current Liabilities. 
 
 Current Liabilities in general represent the obligations 
 falling due in the ordinary course of the business and to 
 meet which cash must be currently provided. 
 
 Of these, Accounts Payable are usually the most import- 
 ant. It is common practice to compare the Accounts Pay- 
 able with the cash on hand so as to know the company's im- 
 mediate financial situation. A closer analysis is however 
 advisable since for instance, some current accounts pay- 
 able may not, under the terms of payment be due for one or 
 two months, and while cash may be low at the end of the 
 month it may be safe to rely on the collection, during the 
 first part of the next month, of a certain proportion of Ac- 
 counts Receivable. Accounts Payable are for convenience 
 classifi,ed according to the parties to whom they are pay;- 
 able. 
 
 The Account Accrued Liabilities not Due may in a way 
 be called the opposite of the asset account Prepaid Expens- 
 es. While Prepaid Expenses represent payments for ex- 
 penses in advance of the periods to which they pertain, 
 Accrued Liabilities not Due represent the expenses which 
 are not payable until after the period to which they pertain. 
 
 The necessity for these two accounts lies in the fact that 
 we attempt to make accurate statements each month of the 
 business results for that month, whereas some kinds of ex- 
 penses as taxes, insurance and interest may be payable 
 annually or quarterly instead of monthly. 
 
 It is necessary also to provide a Liability account for 
 Unearned Revenue, because in some cases bills for service 
 are rendered in advance for a period of three months or 
 more, whereas after the month in which the money is re- 
 ceived the company is stUl under obligation to furnish 
 service for a further period. This account therefore is also 
 
512 TELEPHONE COMPANY ACCOUNTS 
 
 needed in order to make the monthly statements cover only 
 
 the month's business. 
 
 XI. Reserves and Surplus. 
 
 In a general way it may be said that reserves and 
 surplus (sometimes called Surplus Reserves) represent 
 the company's provision against impairment of its cap- 
 ital under all possible contingencies, some of which can 
 be foreseen but their probable cost cannot be known, 
 while others cannot be foreseen but are part of the risk 
 and uncertainty which must accompany all human un- 
 dertakings. 
 1. Replacement Reserves. 
 
 The account about which there is generally the most 
 discussion is that bearing, in the new accounting circu- 
 lar, the title Replacement Reserves. Perhaps the best 
 way to get an understanding of the meaning and use of 
 this account is to consider here in one place all the ac- 
 counts to which it is related and to confine the discus- 
 sion for the moment only to Plant. Next let us disre- 
 gard the terms Construction, Reconstruction and Main- 
 tenance and fix our minds on these terms, — New Plant 
 Built, Old Plant Removed, Cost of Removal, Salvage, 
 Repairs, Depreciation and Replacement Reserve. These 
 terms comprise and roughly describe all the transac- 
 tions that relate to the subject. The logical and correct 
 way to account for these transactions is as follows : 
 
 (a) As new plant is built, whether it represents addi- 
 tions to the system or replaces old plant, the cost 
 of building such new plant is charged to the prop- 
 er plant account. 
 
 (b) As the plant is repaired so as to keep it in work- 
 ing order, the cost of the repairs which cannot be 
 considered as adding to the original value of the 
 property, must be charged to expense. 
 
 (c) It cannot be doubted that every part of the plant 
 is, in spite of repairs, gradually and in some cases 
 
TELEPHONE COMPANY ACCOUNTS 513 
 
 imperceptibly deteriorating so that it will at some 
 time in the future have to be abandoned or re- 
 placed. In addition to this general but gradual 
 deterioration there are two probable causes for fu- 
 ture replacement, known as obsolescence and in- 
 adequacy. Obsolescence arises from the fact that 
 by the progress of invention old types of plant 
 have sometimes to be discarded before they are 
 worn out, because more efficient types must take 
 their place. Inadequacy may be caused by advanc- 
 es in the art or by more rapid growth than was 
 foreseen, or by public regulation. 
 
 The consensus of opinion of accountants and 
 other students of the question is that this grad- 
 ual deterioration, obsolescence and inadequacy, 
 grouped together under the general name of de- 
 preciation, should be provided for out of the 
 earnings (or in other words charged to expenses) 
 as fast as it is estimated to accrue. This means 
 that there must be a monthly charge to expenses 
 representing the estimated accrued depreciation 
 for the month. 
 
 (d) Now since this is not at once a cash outlay the 
 charge to expenses must be offset by an equal 
 credit to some account. For that account we 
 adopt the general term Replacement Reser^^es, 
 thereby recognizing that this provision is made 
 to replace the plant when it has to be taken out 
 for any of the causes called depreciation. 
 
 (e) As old plant is taken out for these causes it is 
 clear that the plant account should be accordingly 
 decreased because, being no longer in existence, 
 ■the books should no longer show it as an asset. 
 Old plant removed is therefore credited to the 
 proper plant account and charged to Replace- 
 
 B.VIII— 33 
 
^li TELEPHONE COMPANY ACCOUNTS 
 
 ment Eeserve, which, as just stated has been pro- 
 vided for that purpose. 
 
 (f) But the provision for depreciation if correctly 
 made recognizes that there would be some sal- 
 vage from the old plant when taken out and 
 that the cost of removing the old plant so as to re- 
 cover the salvage would reduce the net value of 
 that salvage. This net value of salvage must 
 then be credited to Replacement Reserve. 
 
 (g) As old plant is removed it may or may not be re- 
 placed by new plant or if replaced, the new plant 
 may be of different character. This however 
 does not affect any of the foregoing since the cost 
 of any new plant, for whatever reason built, be- 
 comes at once an addition to the plant accounts. 
 
 Although these processes are for convenience 
 somewhat expanded, in practice, it is simpler to per- 
 form than to describe them. It is important that they 
 be generally comprehended because they comprise the 
 only known method by which the transactions that 
 really occur can be recorded on the books. 
 
 The question is raised as to the growth of this ac- 
 count, Replacement Reserves. We show, for instance, 
 that the Associated Bell Operating Companies in the 
 United States during the first ten months of the year 
 1909 charged to expenses for depreciation nearly $11,- 
 000,000 more than was required to take care of old 
 plant taken out of service during that period. The 
 reason and necessity for this is as follows. The bulk 
 of the present plant of the Bell Companies has been 
 built within the past five years and has not yet dete- 
 riorated to the point of replacement. The old plant now 
 coming out of service is that built ten, fifteen or twen- 
 ty years ago. Since the whole plant was then very 
 much smaller than it is now, replacements actually tak- 
 ing place now are less than they will be ten, fifteen or 
 
TELEPHONE COMPANY ACCOUNTS 515 
 
 twenty years from now. But depreciation is accruing 
 on tlie present enormous plant day by day, month by 
 month and year by year. It is this depreciation we are 
 providing for out of present earnings, not that which 
 began accruing ten, fifteen or twenty years ago. 
 
 2. Reserve for Sinking Fund. 
 
 By the terms of some bonds a so-called sinking fund 
 must be provided. 
 
 Reserve for Sinking Fund means that part of the 
 net earnings, instead of being paid out in dividends 
 or added to surplus, are set aside to be used to pay off 
 bonded debt. This money so set aside is commonly 
 turned over to a trustee who invests it till the bonds 
 are due; such investments and the income from them 
 being carried in a special property account called Sink- 
 ing Fund. When the bonds are thus paid off the re- 
 serve for sinking fund has served its purpose and 
 may go back to surplus, having been in the meantime 
 an appropriation from surplus to safeguard the security 
 of bondholders. But it is not always provided in the 
 mortgage securing the bonds that the additions to sink- 
 ing fund must be met out of earnings before dividends 
 are paid, nor is this necessary for the bondholders' pro- 
 tection when proper provision for depreciation is taken 
 out of earnings and put in replacement reserves. 
 In such cases it is a common practice not to set up a 
 reserve for sinking fund at all but to transfer the 
 stipulated amounts from the asset account Cash, which 
 is under the company's control to the asset account 
 Sinking Fund, which is under the control of a trustee 
 for the bondholders. 
 
 3. Surplus. 
 
 The general purpose of surplus is similar to that of 
 replacement reserves and reserves for sinking funds, 
 viz., to keep the capital from becoming impaired. Re- 
 placement reserves and reserves for sinking funds 
 
516 TELEPHONE COMPANY ACCOUNTS 
 
 however relate to specific propert}^ or specific debts, 
 while surplus may be used for any contingencies that 
 may arise. In fact a part of surplus is sometimes called 
 *' Contingent Reserve" or some similar name. 
 
 It frequently happens that the stockholders prefer 
 to take smaller dividends and leave the balance of the 
 earnings as additional capital in the business, or the 
 business may have such hazards as to property values 
 or such fluctuations in earnings that the safeguarding 
 of regular and steady dividends at an average rate can 
 best be attained through the surplus account. 
 
 The source of surplus too is somewhat different 
 from that of replacement reserves. The additions to 
 the latter are properly a part of expenses and as such 
 come out of revenue before dividends can be paid from 
 current revenue, while surplus commonly represents the 
 accumulations of net revenue after dividends have been 
 paid. 
 
 Without entering into fine distinctions however it 
 helps to understand the general status of a company 
 with respect to its property on the one hand and its 
 obligations on the other if the surplus and these re- 
 serves are grouped together. 
 
 XII. Revenue. 
 
 The various terms Revenue, Earnings, Income and Re- 
 ceipts are often used more or less loosely to represent about 
 the same thing. We use the term Revenue as being per- 
 haps the least ambiguous. In the best modern accounting 
 practice the revenue is deemed to be earned in the period 
 during which the service is rendered, whether the money 
 is all received in that period or not. 
 
 There are two principal sources of telephone revenue — 
 that from exchange service and that from toll ser\ace. 
 While the general distinction between the two is plain, 
 it becomes necessary in practice to make as exact 'defini- 
 
TELEPHONE COMPANY ACCOUNTS 517 
 
 tions as possible and in some doubtful cases, to make arbi- 
 trary rulings. 
 
 Exchange Service is defined for accounting purposes as 
 the transmission of messages by telephone between two 
 stations both of which are within, or receiving local service 
 from, the same exchange service area. An exchange 
 service area is that area referred to and usually described 
 in the company's contracts with its subscribers within 
 which local service is furnished subscribers at rates speci- 
 fied in such contracts. 
 
 Having defined exchange service, it, of course, follows 
 that toll service covers the transmission of messages by 
 telephone between two stations in different exchange 
 service areas. 
 
 Under exchange service the bulk of the revenue is, of 
 course, that from subscribers. Much consideration was 
 given to various suggestions for sub-dividing revenue from 
 subscribers' stations among various classes of stations but 
 it appeared that the sub-divisions possible of general appli- 
 cation, would be of little practical value in many places. 
 It was finally decided to provide the optional sub-accounts 
 shown in the circular, with the thought that they would 
 be used chiefly for the larger cities and perhaps still further 
 amplified in the largest cities. 
 
 The revenue from pay stations is generally of a dis- 
 tinctive character so as to be easily segregated. 
 
 Other accounts, provided under exchange revenue, are 
 believed to be needed not only so that such revenue can be 
 known and thereby greater effort made to increase it, but 
 also that subscribers' revenue may not be loaded up with 
 items which have no particular relation to the contracts 
 with subscribers. 
 
 Under toll revenue we distinguish two main classes. 
 First, the revenue from toll messages entirely over the 
 company's lines, known as company tolls, and next, the 
 revenue known as foreign tolls which represents the com- 
 
618 TELEPHONE COMPANY ACCOUNTS 
 
 pany's proportion of the revenue from toll messages, one 
 or both terminal points of which are not on the company's 
 lines. Optional sub-accounts, under both these heads, have 
 been provided to distinguish intrastate from interstate 
 tolls. 
 
 It may be well here to indicate Avhat is generally meant 
 by the company's proportion of foreign tolls. A toll mes- 
 sage frequently passes over the lines of two or more com- 
 panies, the whole revenue however being collected by one 
 company. The division of revenue is made on a basis 
 described in contracts between the connecting companies, 
 being either prorated according to mileage or a commission 
 allowed. The collecting company then receives not only 
 its own revenue from the message but also acts as an agent 
 in collecting and paying over to the other company or com- 
 panies their revenue from the message. The revenue col- 
 lected on behalf of others is not revenue of the collecting 
 company and if for bookkeeping convenience it is originally 
 included under revenue it must be deducted therefrom each 
 month. 
 
 Other sub-accounts of revenue are provided along the 
 lines that experience seems to indicate will be found useful. 
 
 XIII. Expenses. 
 
 In the classification of expenses more changes have been 
 made and more sub-accounts have been introduced than 
 in any other part of the accounting system. The reason 
 for this is a natural one, relating to the growth of the tele- 
 phone industry. 
 
 The alert manager of a small business sees with his 
 own eyes the improvements that should be made in order 
 to keep his expenses do^m and his service up and these 
 things he can correct on the spot by verbal directions or 
 perhaps with his ot\ti hands. 
 
 As a business grows the administrative head has to 
 depend partly on similar action by his subordinates, veri- 
 
TELEPHONE COMPANY ACCOUNTS 519 
 
 fied by their reports to him, and partly by the financial 
 results as disclosed in the bookkeeper's reports. From 
 this point on, the supervision of the business depends large- 
 ly on the development of organization and accounts. 
 
 From very humble beginnings the Bell system has 
 passed through successive periods of experimentation, edu- 
 cation of the public to the use of the telephone and en- 
 listment of capital, to the construction of great plants and 
 the building up of great organizations to care for a great 
 public utility. 
 
 The development of the industry has now reached the 
 period when efficient conduct of daily routine is to be a 
 great and perhaps the dominant feature. Complete and 
 detailed information as to expenses are an essential part 
 of such a program. We make no apology for insisting 
 on this as a vital part of the accounting of the Bell system. 
 
 The clerical processes by which such detailed informa- 
 tion can be obtained are outlined in the standard routines 
 just published, which are believed to be the most efficient 
 that can be devised to meet present conditions. We confi- 
 dently expect that the development of mechanical account- 
 ing processes can reduce the clerical work involved for 
 detailed expense accounts considerably below what it has 
 been for the simple accounts used in the past. 
 
 The sound principle for uniform expense accounting in 
 large companies is that classifications should conform to 
 the predominant type of organization. The type of organ- 
 ization now predominant and being more and more gen- 
 erally adopted as its advantages are more clearly under- 
 stood, is commonly known as * 'functional," that is depart- 
 mentalized throughout the field according to classes of 
 work, with each class of work wherever performed under 
 the jurisdiction of one department. The departments gen- 
 erally recognized are: 
 Executive, 
 Accounting, 
 
520 TELEPHONE COMPANY ACCOUNTS 
 
 Financial, 
 Legal, 
 Commercial, 
 Traffic, 
 Plant. 
 Of these, there are three de'partments directly responsible 
 for the greatest expenditure of money, viz. : — the Commer- 
 cial, Traffic and Plant Departments. 
 
 In the Commercial and Traffic Departments the ac- 
 counts believed to have the greatest administrative value 
 have been provided. These in some cases represent sub- 
 departments, but this principle has not been blindly fol- 
 lowed, because it has seemed in the analysis of expenses 
 better to emphasize by segregation certain expenses which 
 from their nature are relatively large; as for instance, 
 Operators' Wages. 
 
 The Plant Department necessarily requires in the ac- 
 counts special treatment because this department in gen- 
 eral manages the building of new plant (which goes to the 
 property accounts), removal of old plant (which is a charge 
 to Replacement Reserves) and repairs to plant (which are 
 charged to expenses). 
 
 While the detail work of all these transactions can be 
 directly charged to the appropriate account, general super- 
 vision of such work cannot be conveniently or accurately 
 distributed at the time the expenditure is made. This 
 condition is provided for by classifying all plant supervi- 
 sion expenses under a special account, which at the end 
 of every month is "cleared," that is, divided among other 
 accounts. Another advantage in treating plant supervision 
 expense in this way is that all such expenses are first put 
 together in one place, so that a report for administrative 
 uses can be conveniently made up. 
 
 This in general is the principle followed in all clearing 
 accounts. Thus all real estate expenses can by this means 
 be kept together for the month and apportioned as rent 
 
TELEPHONE COMPANY ACCOUNTS 521 
 
 to the various departments, depending on the area and 
 character of floor space they use. Likewise tool expense 
 and stable and garage expense have to be apportioned 
 to different classes of accounts, depending on the use made 
 of the property included under the account Tools and 
 Vehicles. Supply expenses also have to be distributed to 
 different accounts, depending on the accounts to which the 
 material delivered from supplies has been charged. 
 
 Reference has already been made to repairs as related 
 to plant and replacement reserves. I shall not here comment 
 on its meaning or discuss the interpretations that have 
 been developed concerning it. The sub-accounts of re- 
 pairs are a condensation of the corresponding accounts of 
 plant. The main purpose in this is to get unit costs of 
 repairs. 
 
 Occasionally a severe sleet storm throws a heavy burden 
 on repairs and it may be noted in passing that a method 
 of making provision in advance for this occasional heavy 
 burden, or of equalizing it among months, has been pro- 
 vided. 
 
 The expense account which shows the cost of the con- 
 stant shifting in telephone stations, previously referred to, 
 is known as Station Removals and Changes^ and the infor- 
 mation possible through this account will be found to be 
 of great importance. 
 
 These three accounts, Repairs, Station Removals and 
 Changes, and Depreciation of Plant, comprise what is com- 
 monly known as Maintenance, all of which is usually a 
 responsibility of the plant department. 
 
 We come next to some other expenses which are not 
 precisely departmental expenses. These include rights, 
 privileges and use of property, the new definition of which 
 expresses clearly, we believe, the purpose of such expense 
 and the meaning of this account. Insurance and taxes 
 complete the classes of expenses. 
 
 Now having ascertained all the expenses, — among which 
 
522 TELEPHONE COMPANY ACCOUNTS 
 
 sufficient depreciation should have been included, — they 
 may be subtracted from revenue and the difference will 
 represent the net earnings of the business for the period. 
 From the net earnings must first be deducted the interest 
 pertaining to the period on all the company's indebted- 
 ness. The balance represents the earnings on capital stock, 
 most of which in common practice goes to the shareholders 
 in the form of dividends, the balance, if any, being added 
 to Surplus. 
 
 XIV. Non- Functional Exchange Expenses. 
 
 As already explained the accounts, particularly the ex- 
 pense accounts, are primarily designed for and adapted to 
 a company having the functional form of organization. 
 But even a company so organized may have small or iso- 
 lated exchanges where it is advantageous to have all the 
 classes of local w^ork under the general supervision of one 
 local man, and indeed there are large comjDanies made up 
 chiefly of small exchanges of this character and wdth this 
 organization. It is to take care of such cases that the ac- 
 count known as Non-Functional Exchange Expenses has 
 been devised. By this means the expenditures made under 
 the direction of Exchange Managers may come through 
 the books and be concentrated in one account without first 
 making a theoretical sub-division according to departments. 
 Having been aggregated in one account how^ever they must, 
 for the sake of general uniformity and the combination 
 of all accounts, be apportioned as if departmental lines 
 existed, a method for such apportionment being provided. 
 
 XV. Geographical Areas. 
 
 Many companies, particularly the larger ones, cover so 
 broad a territory that it is important to know the prop- 
 erty, revenue and expenses sub-divided into geographical 
 areas. This is a difficult branch of the accounting not only 
 because it involves great detail but more particularly be- 
 cause carried to its extreme it involves apportionment of 
 
TELEPHONE COMPANY ACCOUNTS 523 
 
 so large a proportion of revenue and expenses as to se- 
 riously invalidate the results. It is obvious, for instance, 
 that to the man in charge of work in a given geographical 
 area the proportion of general expenses charged him on 
 some arbitrary basis has no vital meaning. He knows that 
 the accuracy of the amount of general expenses charged 
 cannot be substantiated as actually incurred for the benefit 
 of his district, and that even if it w^ere correct, it would 
 be beyond his power to reduce it by his own efforts. At 
 the same time it is important that the expenses which are 
 incurred under his supervision should be segregated and 
 known both to his administrative superior and, in my judg- 
 ment, to himself. 
 
 The reasonable course appears to be to segregate by 
 the geographical areas used for administrative purposes, 
 the revenue and expenses which directly pertain to each 
 such area and to apply the administrative pressure to get 
 better results by means of a comparison of such direct re- 
 sults in different areas, or for different periods in the same 
 area. 
 
 XVI. Reports. 
 
 There are in every business two fundamental financial 
 reports, the balance sheet as of a given date and the earn- 
 ings report for a stated period. The balance sheet com- 
 prises on the one hand the assets or property, and on the 
 other hand the liabilities. Including surplus,- the liabili- 
 ties must always exactly equal the assets. The earnings 
 report shows in greater or less detail, the revenue, ex- 
 penses, net earnings, interest, dividends, and the balance, 
 if any, added to surplus. 
 
 All other reports from the books, of which there may 
 be an infinite variety, are subordinate to these two principal 
 reports and serve to amplify or explain details and make 
 v3omparisons. 
 
 While the general situation of a business cannot be 
 understood without the balance sheet and earnings re- 
 
524 TELEPHONE COMPANY ACCOUNTS 
 
 port, the success and value of an accounting system must 
 depend largely on the fomi of the subordinate reports and 
 the use made of the information they furnish. 
 
 Conclusion. 
 
 Only time and experience will really show to what de- 
 gree this accounting plan is permanent. Our belief is that 
 it affords a foundation on which can be built all the im- 
 provements and changes that may from time to time be 
 wanted to assist and guide the development of the business. 
 
 Many good people in this country observe with anxiety 
 the increasing concentration of business enterprises into 
 fewer and fewer organizations, fearing the elimination of 
 competition. They forget that this same economic process 
 by stimulating competition between individuals in the same 
 business is developing the high degree of individual effi- 
 ciency that has made possible the steady advance in wages 
 of all classes of labor. 
 
 A most important accounting work for the future lies, 
 I think, in the endeavor to show through accounting sys- 
 tems the relative efficiency of individuals. Perhaps it is 
 not an idle dream to imagine that the time may come when 
 it will be as much a function of an accounting system to 
 show to each individual employe the results of his labor 
 as it now is to show to each stockholder the result of his 
 investment of money. 
 
 This tendency, whatever practical limits it may prove 
 to have, means now not only that administrative officers 
 must understand what the accounts say for their larger 
 fields of responsibility but that department heads and 
 individual employes must begin to learn what the accounts 
 teach about their work. 
 
 There need be nothing mysterious or obscure about ac- 
 counts and accounting reports. They can and should be 
 so stated that anyone, having such an understanding of 
 arithmetic and language as a common school education 
 affords, can readily fit himself to understand them. 
 
CJESTIONS IN 
 BUSINESS ADMINISTRATION 
 ACCOUNTING 
 
 Fundamental Ideas. 
 
 1. What erroneous uses are made of tlie word "account- 
 ing"? Page 3. 
 
 2. In what way is accounting related to the science of 
 economics? Page 4. 
 
 3. What is the relation between the accountant and the 
 bookkeeper? Page 4. 
 
 4. What has caused the evolution of the accounting pro- 
 fession? Page 5. 
 
 5. What subjects does the regular examination for pub- 
 lic accountants now include? Page 8. 
 
 Construction of the Account. 
 
 1. What is lacking in a classification of "bought" and 
 "sold"? Page 11. 
 
 2. What do the terms "debtor" and "creditor" mean 
 as used in an account? Page 11. 
 
 3. What is an account? Page 13. 
 
 4. What should an accounting system show? Page 14. 
 
 5. What is a nominal account? Illustrate. Page 15. 
 
 6. Illustrate a real or property account. Page 16. 
 
 7. Give two reasons for keeping personal accounts. 
 
 Page 16. 
 
 8. On June 1, James Brown bought 144 boxes of straw- 
 berries for $8.00. On June 1, he sold 60 boxes at 10 
 cents per box. On June 2, he sold 80 boxes at 10 cents 
 per box, and 4 boxes spoiled. He had to pay 50 cents 
 for the use of a cart. Show how his cash account would 
 
 525 
 
626 QUIZ QUESTIONS 
 
 appear at the end of June 2. Pages 17-23. 
 
 9. What is meant by the double entry system of book- 
 keeping? Page 24. 
 Keeping the Books. 
 
 1. Why would the day book alone be an insufficient rec- 
 ord of the transactions of a business ? Page 26. 
 
 2. What is the nature of the ledger? Page 26. 
 
 3. What is the purpose of the journal? Page 27. 
 
 4. Illustrate the journalizing of a transaction. What 
 does it indicate? Page 28. 
 
 5. What is the best classification of the day book? 
 
 Page 30. 
 
 6. What is the general ledger? Page 32. 
 
 7. Wliat is the cash book? Page 33. 
 
 8. Wlien is an account said to be balanced? Page 35. 
 
 9. How is a trial balance prepared? Page 36. 
 
 10. How is the net worth of a business determined ? 
 
 Page 40. 
 
 11. Of what does the balance sheet consist? Page 41. 
 
 Capital. 
 
 1. How should the capital account be kept in the ease 
 of a partnership? Page 45. 
 
 2. What is an installment book? Page 47. 
 
 3. If John Smith has 30 shares in a concern and wishes 
 to transfer 20 shares to R. Jones, how is the exchange 
 of shares recorded? Page 49. 
 
 4. What is treasury stock? Page 50. 
 
 5. How does the privilege of allowing some stockholders 
 to furnish property in payment for stock afford a 
 shrewd money-making scheme? Page 51. 
 
 6. What gives rise to a good- will account? A surplus 
 account? Pages 52, 53. 
 
 7. What is the erroneous idea as to the reason for a con- 
 cern's issuing bonds? Page 54. 
 
ACCOUNTINa 527 
 
 Cash Account 
 
 1. Smifh and Brown each contribute to the capital $4,000 
 in the form of checks. The cashier deposits them in 
 the First National Bank. Give two methods of keep- 
 ing a record of the transactions. Pages 57, 58. 
 
 2. Jones buys of Smith & Brown $500 worth of goods and 
 gives his note in exchange. Show how this will ap- 
 pear on the books of Smith & Brown. Page 60. 
 
 3. The bank takes Smith & Brown's note of $500, credit- 
 ing their account with the amount, but exacting $2.50 
 discount. How should this discount be accounted for 
 on the books of Smith & Brown*? Page 63. 
 
 4. If Jones dishonors his note, what course will the bank 
 take? How will this change the accounting? 
 
 Page 64. 
 
 5. If the note had not been discounted but had been dis- 
 honored by Jones when directly presented by the firm, 
 what entries would have been made? Page 65. 
 
 6. If Smith & Brown secure a renewal of a bill they 
 owe, how is the accounting affected? Page 67. 
 
 7. What is the relationship between cash, bank, bills re- 
 ceivable, and bills payable? Page 67. 
 
 8. Give an example of a contingent liability. Page 68. 
 
 Goods Accounts. 
 
 1. What is an * inward returns" book? An "outward 
 returns" book? Page 71. 
 
 2. Jones & Jones, having goods to the amount of $10,000, 
 sold to J. Jackson $1,500 worth of goods. On unpack- 
 ing, Jackson found that $250 worth of the goods were 
 damaged, and he returned them. How would these 
 transactions appear on the books of Jones & Jones? 
 
 Page 72. 
 
 3. Smith & Brown receive from Thomas Taylor a con- 
 signment of goods worth $100. They sell the goods 
 
528 QUIZ QUESTIONS 
 
 for $150. After deducting their commission of 10 per 
 cent, and freight charges amounting to $2, a draft 
 for the remainder is remitted to Taylor. How would 
 the accounts appear on the books of Smith & Brown? 
 
 Page 77. 
 
 4. Elustrate the trading account. Pages 78-82. 
 
 5. What does an inventory show? Page 83. 
 
 Plant and Property Accounts. 
 
 1. Of what do plant and property accounts consist? 
 Illustrate. Pages 85-87. 
 
 2. What uses may be made of the money held in the busi- 
 ness to represent the value of destroyed or wasted as- 
 sets which have depreciated in value? Page 89. 
 
 3. What are the objections to the process of writing 
 down assets to correspond with their true value ? 
 
 Page 90. 
 
 4. At the end of a year's business a firm finds that there 
 is a deterioration amounting to $250 in its plant and 
 property. To offset such depreciation, U. S. bonds 
 are bought. How will this transaction be shown on 
 the books? Pages 91, 92. 
 
 5. What is a depreciation reserve? Page 92. 
 
 6. Illustrate a transfer of fixed assets into floating. 
 
 Page 94. 
 
 7. What is the most practical method of accounting for 
 depreciation? Page 95. 
 
 8. Name the causes of deterioration. Page 96. 
 
 9. What factors must be considered in estimating de- 
 preciation? Page 98. 
 
 10. What is the effect of a too cautious depreciation pol- 
 icy? Page 101. 
 
 11. How does a bank safeguard capital against possible 
 loss? Page 101. 
 
 12. How is appreciation accounted for in the books? 
 
 Page 102. 
 
ACCOUNTING 529 
 
 Manufacturing Accounts. 
 
 1. How does the manufacturing accounting differ from 
 the accounting of an ordinary retail business? 
 
 Pages 106, 122. 
 
 2. How is the expense side of manufacturing shown in 
 the books? Page 107. 
 
 3. What items would appear on the debit side of the pro- 
 duction account of the manufacturing department of a 
 concern? On the credit side? What would the ac- 
 count show? Pages 110, 111. 
 
 4. What does the trade value represent? Pages 112, 124. 
 
 5. How is the cash which is received by the selling end 
 of a concern treated in the books? Page 114. 
 
 6. How does the profit shown by a manufacturing or 
 packing department differ from the profit shown by 
 the selling department? Page 114. 
 
 7. When departmental ledgers are kept, what accounts 
 are found in the general ledger? Page 116. 
 
 8. What is the purchases analysis book? Page 119. 
 
 9. Give a method by which the amount of materials is- 
 sued may be kept track of. Page 120. 
 
 10. Wliat items must an accounting system keep sepa- 
 rate? ' Page 121. 
 Cost Accounting. 
 
 1. Define cost accounting. Page 123. 
 
 2. Why is it impossible to know the exact cost of units 
 of goods by; the departmental system of accounting? 
 
 ■■> Page 123. 
 
 3. What is the object of cost accounting? Page 124. 
 
 4. Describe a cost sheet. Page 125. 
 
 5. Of what use is the cost sheet? Page 126. 
 
 6. Explain the use of the individual cost sheet. Page 127. 
 
 7. How can the cost accounting be carried on as a part 
 of the general accounting system? Page 128. 
 
 8. What is the nature of the contract ledger? Page 131. 
 
 B— VIII— 34 
 
630 QUIZ QUESTIONS 
 
 9. What is the use of the bought ledger? Page 133. 
 
 10. What is the work of the cost ledger? Page 135 
 
 11. Name the four bases of cost accounting. What method 
 of accounting is adopted for each basis? Page 140. 
 
 12. Of what does the problem in cost accounting as ap- 
 plied to modem business consist? Page 140. 
 
 13. What is the best cost system for a concern of large- 
 scale production? Page 142. 
 
 Profit and Loss Accounts. 
 
 1. What difficulties arise in the profit and loss account- 
 ing as the operations of a business increase in complex- 
 ity? Page 145. 
 
 2. What is shown by each of the four sections into which 
 profit and loss account may be divided? 
 
 Pages 147, 148. 
 
 3. What important facts are shown by the sub-divided 
 profit and loss account? Page 150. 
 
 4. What general principle is followed in sub-dividing 
 profit and loss account? Page 151. 
 
 5. Into what classes may all incomes and expenditures 
 be divided? Page 152. 
 
 6. How should increased assets be treated in the books 
 of a firm? Page 153. 
 
 7. How can the profit and loss account be made to show 
 the results of a business for a fiscal period? Page 156. 
 
 8. How must a profit and loss account which shows 
 simply the increase in cash be supplemented? 
 
 Page 159. 
 
 9. Give an instance where dividends should not be de- 
 clared even when a profit has been earned. Page 160. 
 
 The Balance Sheet. 
 
 1. What simple rules aid in determining whether an item 
 is an asset or a liability? Page 163. 
 
 2. Give an example of an accrued expense. Page 163. 
 
ACCOUNTINa 531 
 
 3. What is a balance sheet*? Page 166. 
 
 4. When will depreciation appear in the balance sheet 
 as an asset *? As both an asset and a liability'? 
 
 Page 168. 
 
 5. Describe the standard form of balance sheet. 
 
 Page 169. 
 
 6. How does the English form of balance sheet differ 
 from the American form? Page 170. 
 
 7. What must a person have in order to interpret a bal- 
 ance sheet? Page 173. 
 
 8. Wliat knowledge of a business does a balance sheet 
 show? Page 174. 
 
 9. What is the object of the double account system of 
 balance sheet? Page 176. 
 
 10. How is depreciation treated in the double account 
 system? Page 177. 
 
 11. Why is the double account system of no use in the 
 case of a bank? Page 179. 
 
 12. What is the nature of a statement of affairs? 
 
 Page 182. 
 
 13. What is a deficiency account ? Page 183. 
 
 Auditing and Reporting. 
 
 1. What is auditing? Page 185. 
 
 2 What is the legal aspect of auditing? Page 185. 
 
 3. Hlustrate the commercial side of auditing. Page 186. 
 
 4. How does the auditor check up the accounts of a busi- 
 ness? Page 187. 
 
 5. What rules may be adopted by a concern in order 
 to guard against fraud in its accounting? Page 189. 
 
 6. What are the responsibilities of an auditor? 
 
 Pages 191, 192. 
 
 7. How does an auditor proceed to examine the payments 
 and receipts of cash and the cash items of a bank? 
 
 Page 194. 
 
532 QUIZ QUESTIONS 
 
 8. What is meant by the analysis of an account? 
 
 Page 196. 
 Accountancy Examinations. 
 
 1. What methods characterize the present tendency 
 toward regulation of the accountancy profession? 
 
 Page 211. 
 
 2. In what way are the professional standard and meth- 
 ods maintained? Page 212. 
 
 3. Give the scope of examinations required to authorize 
 issuance of the C. P. A. certificate. Page 214. 
 
 4. Name the suggestions made with reference to ex- 
 aminations. Page 215. 
 
 5. ^AHierein do examinations for auditing differ from ex- 
 aminations for accountancy? Page 216. 
 
 6. How extensive a knowledge of law should a student 
 have? Page 219. 
 
 7. What knowledge of mathematics is desired in an ac- 
 countant's equipment? Page 221. 
 
 8. In what way is a general preliminary education de- 
 sirable? Page 224. 
 
 Accounting Terminology. 
 
 1. In what respects do accounts kept by the executive 
 officers of the Government differ from those kept by 
 the general fiscal officers? Page 245. 
 
 2. What two types of accounts are used in private busi- 
 ness? Pages 245, 246. 
 
 3. Distinguish between *' proprietorship accounts," and 
 ** fiduciary accounts." Page 246. 
 
 4. What books are usually kept by municipalities? 
 
 Page 247. 
 
 5. What are the principal innovations introduced by 
 modem accounting? Page 248. 
 
ACCOUNTINa 533 
 
 6. How may properly kept aecoimts be an aid to honest 
 municipal government? Page 249. 
 
 7. Give and describe the two general types of accounts 
 that have recently been introduced by many city gov- 
 ernments. Page 250. 
 
 8. How do some cities make use of accounting in their 
 attempt to measure the efficiency and economy of their 
 administration? Page 251. 
 
 9. Discuss difficulties arising when payment of warrant 
 is deferred for long periods, referring to both past and 
 present issues. Pages 251, 252. 
 
 10. What are the two important results to be accomplished 
 in city governments by a correct accounting system? 
 
 Pages 253, 254. 
 
 11. Give the reason for non-uniformity even among skilled 
 accountants. Pages 254, 255. 
 
 12. What is accounting as defined by Mr. Powers? 
 
 Page 255. 
 
 13. Distinguish between nominal and actual assets. 
 
 Page 257. 
 
 14. Define funds; investments. Page 258. 
 
 15. What is the diiference between bills receivable and 
 accounts receivable? Page 260. 
 
 16. What is the weakness of most city "asset accounts"? 
 
 Pages 261, 262. 
 
 17. How has the infiuence of the Bureau of the Census 
 tended to promote accuracy and regularity in city 
 ** asset accounts"? Page 262. 
 
 18. Define liabilities; debts; fixed debts; floating debts. 
 
 Pages 264, 265. 
 
 19. What are the two general classes of trusts ? Page 266. 
 
 20. Classify liabilities under three heads. Page 267. 
 
 21. What is the objection to classifying proprietary in- 
 terests with general liabilities? Page 268. 
 
 22. How does the Bureau of the Census distinguish be- 
 
534 QUIZ QUESTIONS 
 
 tween the claims of creditors and proprietary inter- 
 ests? Pages 268, 269. 
 
 23. How are proprietary interests variously designated? 
 
 Page 269. 
 
 24. Distinguish between permanent and temporary re- 
 serves. Page 270. 
 
 25. What is the difference between unreserved and re- 
 served interests of beneficiaries'? Page 272. 
 
 26. What is meant by nominal revenue accumulations? 
 
 Pages 273, 274 
 
 27. Define the two classes of governmental reserves. 
 
 Pages 274, 275. 
 
 28. Itemize the various expenses of a government coming 
 under the heads, general and commercial expenses. 
 
 Pages 276, 277. 
 
 29. In governmental accounting, what is included in the 
 term ''interest"? Page 278. 
 
 30. From what sources do governments derive their in- 
 come? Page 280. 
 
 31. Define the following forms of taxes: Property tax, 
 business taxes, license tax, poll tax. Page 282. 
 
 32. How does the Bureau of the Census classify the two 
 forms of privileges? Pages 283, 284. 
 
 33. Define fees; charges. Page 284. 
 
 34. What are the real or actual receipts of a governing 
 body? Page 286. 
 
 35. For what four purposes are government revenues in- 
 tended? ^ Page 287. 
 
 36. From what two sources do municipalities, states, etc., 
 draw their revenue? Pages 287, 288. 
 
 37. What are ''counterbalancing payments and receipts," 
 and into what four classes are they divided? 
 
 Page 289. 
 
 38. What are nominal payments and receipts? Page 290. 
 
 39. Define investment transfer payments and receipts; 
 major transfer payments and receipts. Page 291. 
 
ACCOUNTINa 535 
 
 40. How did the expressions "ordinary" and ** extraordi- 
 nary" payments and receipts originate? 
 
 Pages 291, 292. 
 
 41. How are extraordinary expenses generally met by tlie 
 average state*? Page 293. 
 
 42. What facts should a proprietorship account disclose? 
 
 Page 295. 
 
 43. What are ''controlling accounts"? Page 297. 
 
 44. What special conditions should government summa- 
 ries show? Pages 298, 299. 
 
 45. Classify the important facts that should be brought 
 out in the general summary of expenditures. 
 
 Pages 299, 300. 
 
 46. How should summaries of government receipts be ar- 
 ranged? Pages 302, 303. 
 
 47. In order to be of the greatest administrative assist- 
 ance, how should payments and receipts be finally 
 classified? Pages 304-306. 
 
 48. What question arises in keeping the accounts of a 
 city whose general property taxes are never collected 
 in the year when levied? Page 309. 
 
 49. According to many accountants what limitations are 
 to be placed upon proprietary accounts ? Page 311. 
 
 50. In addition to showing facts with reference to re- 
 sources provided or expended in carrying out the ad- 
 ministrative policy, what additional facts should gov- 
 ernment accounts show? Page 312. 
 
 51. What confusion arises on account of accountants' in- 
 discriminate use of the terms "balance sheet" and 
 "profit and loss"? Pages 313, 314. 
 
 Changes in Government Accounting. 
 
 '1l, How far are the methods of transacting business by] 
 the Government adapted to their purpose? Page 315. 
 
 2. What was the probleipa in the reorganization of the 
 Treasury Department? Page 318, 
 
536 QUIZ QUESTIONS 
 
 3. Name the general classes under tlie head of general 
 accountSo Page 320. 
 
 4. Describe the recommendations for accounts of disburs- 
 ing officers. Page 321. 
 
 5. What class of operations of the Government was first 
 put under cost accounting? Page 323. 
 
 6. Describe the situation met in the Government Print- 
 ing Office. Page 326. 
 
 7. What were the main ideas covered by Mr. Leech under 
 his plan of cost accounting*? Page 327. 
 
 8. Explain the system in its operation. Page 328. 
 
 9. Describe the method in ordering work done by the 
 Government Printing Office. Page 333. 
 
 10. Describe the system of cost accounting used in the 
 mints, ^^-^^^r:^. Page 341. 
 
 11. What is the general plan of cost accounting used in 
 the Census Bureau? Page 343. 
 
 12. Give the general effect of the changes wrought by 
 cost accounting in government work. Page 347. 
 
 Corporation Tax Regulation. 
 
 1. What is the general subject of section 38 of the Act of 
 Congress, August 5, 1909? Page 348. 
 
 2. To what class of companies does the act apply? 
 
 Page 353. 
 
 3. Analyze the definitions and rules for determining in- 
 come of the various classes of corporations. Page 353. 
 
 Federal Corporation Tax. 
 
 1. What special difficulty is met with in legislation by 
 accountants? Page 367. 
 
 2. What do the official regulations for making up the 
 tax returns show? Page 371. 
 
 3. Show the difficulty in providing for depreciation under 
 the act. Page 377, 
 
ACCOUNTINa 537 
 
 4, Wliat will probably be the rule as to deductions on 
 account of cumulative dividends ? Page 380. 
 
 5. Name a few of the problems which will require ad- 
 justment in the assessment of tax on net incomes of 
 corporations. Page 382. 
 
 Primer on Cost Keeping. 
 
 1. Give the general suggestions of the author for the 
 analysis of costs. Pages 387, 388. 
 
 2. What is the governing principle of cost accounting'^ 
 
 Page 391. 
 
 3. Name the two classes of government factories and 
 classify their operations. Pages 394, 395. 
 
 4. What are the two general classes under which prac- 
 tically all the expenditures of a given enterprise fall? 
 
 Page 399. 
 
 5. What distinction is to be made between cost and pur- 
 chase price? Page 401. 
 
 6. Name the expenses generally included in the factory 
 burden. Page 404. 
 
 7. Give the author's suggestions for the apportionment 
 of indirect charges. Page 405, 
 
 8. Describe briefly the two systems for combining the 
 records of the elemental costs. Page 409. 
 
 9. What two costs are to be considered in government 
 contract work? How are these costs computed? 
 
 Pages 411, 412. 
 
 Principles of Cost Accounting. 
 
 1. Give the main cause why cost systems have been fail- 
 ures. Page 415. 
 
 2. Name the first feature in an understanding of manu- 
 facturing cost; the second; the third. Pages 415-418. 
 
 3. At what point does accounting for cost cease and 
 selling cost begin? Page 421. 
 
538 QUIZ QUESTIONS 
 
 4. Analyze the various elements that enter into manu- 
 facturing cost. Page 423. 
 
 5. Differentiate between the various systems of calcu- 
 lating factory expenses. Page 425. 
 
 6. Name the factors that are included in machine costs. 
 
 Page 428. 
 Legal Decisions. 
 
 1. On what basis should the capital stock of a corpora- 
 tion be assessed for taxation? Page 432. 
 
 2. How should real estate be assessed for taxation? 
 
 Page 433. 
 
 3. Give the basis for valuation of personal property and 
 franchises. Page 435. 
 
 4. In ascertaining the valuation for taxation of prop- 
 erty for water supplying purposes, what elements 
 should be considered? Page 445. 
 
 5. In fixing the dividend returns on stock of a public 
 service corporation what should be the basis of valu- 
 ation? Page 459. 
 
 The Balance Sheet of a Railway. 
 
 1. Outline the form of general balance-sheet statement 
 required by the Interstate Commerce Commission in 
 the annual report of carriers to this Commission. 
 
 Pages 465-469. 
 
 2. Name the different forms of secured debt that are 
 generally carried on the books of a railway company. 
 
 Page 468., 
 
 3. What items should appear on the accounts of prop- 
 erty owned, as investment? Pages 469-473. 
 
 4. Outline briefly the deferred debit items, and tell in 
 detail how discount on stock and discount on funded 
 debt are treated. Pages 476-482. 
 
 5. How should the amounts entering into the capital 
 stock account be subdivided. Page 482, 
 
ACCOUNTING 539 
 
 6. Kame and describe tlie six items generally compris- 
 ing the funded debt. Pages 484, 485. 
 
 7. What are the various forms of matured interest ob- 
 ligations that may appear on books of a railway com- 
 pany? - Page 488. 
 
 8. Give a list of items that are generally found on the 
 accounts of items in suspense. Page 491. 
 
 The Accounts of a Telephone Company. 
 
 1. Name the objects in a scheme of accounting. 
 
 Page 494. 
 
 2. Analyze the limitations on these objects. Page 494. 
 
 3. Give the general plan in constructing the scheme of 
 accounting. Page 497. 
 
 4. What four main groups must be dealt with in any 
 scheme of accounts? ' Page 498. 
 
 5. Name the principal property of an operating tele- 
 phone company. Page 499. 
 
 6. Give the four general classes into which the plant is 
 divided for accounting purposes. Page 501. 
 
 7. Into what classes would equipment accounts be di- 
 vided? , Page 501. 
 
 8. How may outside plant be divided? Page 503. 
 
 9. Give the reasons for distinguishing between exchange 
 and toll lines. Page 503. 
 
 10. Summarize the reasons for classifying the plant ac- 
 counts. Page 504. 
 
 11. What is meant by plant unit costs? Page 505. 
 
 12. What classes of property come under the head of 
 working assets? Page 506. 
 
 13. What classes are comprised under current assets? 
 
 Page 508. 
 
 14. Name the three general classes of liabilities. 
 
 Page 510. 
 
 15. Describe the several forms of capital obligations. 
 
 Page 510. 
 
640 QUIZ QUESTIONS 
 
 16. What obligations would be included in current lia- 
 bilities? Page 511. 
 
 17. Analyze reserves and surplus accounts. Page 512. 
 
 18. Give the methods of accounting for revenue. 
 
 Page 516. 
 
 19. Describe the type of department organization for ac- 
 counting purposes. Page 519. 
 
INDEX 
 
 ACCOUNTING. 
 
 APPRECIATION-^ 
 
 theory of, 102, 
 ASSETS— 
 
 accounts of, 261. 
 
 capital, 169. 
 
 classified, 287. 
 
 defined, 162, 256. 
 
 how related to balance sheet, 162. 
 
 how "written down,"88. 
 
 rules for determining, 163. 
 AUDIT— 
 
 analytical, 196. 
 
 defined, 185. 
 
 example of, 193. 
 
 function of, 186. 
 
 process of making, 187. 
 AUDITING— 
 
 examinations in, '216. 
 AUDITOR— 
 
 form of report of, 197. 
 
 national bank examiner's report. 
 198. 
 
 report of, 192. 
 
 responsibility of, 191. 
 
 BALANCE SHEET— 
 
 accrued items on, 164. 
 
 capital and revenue items in, 175. 
 
 classification of items, 169. 
 
 depreciation, how represented in 
 168. 
 
 double account form of, 177. 
 
 explained, 40. 
 
 form of, 167, 179. 
 
 interpretation of, 193. 
 
 object of, 161. 
 
 of railroads, 169. 
 
 of Interstate Commerce Commis- 
 sion, 465. 
 
 relation to assets and liabilities, 
 162. 
 
 relation to statement of affairs, 
 181. 
 
 standard form of, 169. 
 
 under English companies acts, 
 179. 
 BALANCING— 
 
 explained, 35. 
 
 BANK ACCOUNT— 
 explained, 56. 
 
 BANKS— 
 
 corporation tax on, 353. 
 BENEFICIARIES— 
 
 interests of, 271. 
 BETTERMENTS— 
 
 relation to profit and loss, 153. 
 BILL BOOKS — , 
 
 described, ^3. 
 BILLS PAYABLE— 
 
 how accounted for, 66. 
 BILLS RECEIVABLE— 
 
 account, 60. 
 BOOKKEEPING— 
 
 defined, 4. 
 
 method of relating books to one 
 another, 54. 
 
 place of inventory in, 38. 
 
 principles of, 24 ff. 
 
 under corporation tax, 361. 
 BOOKS— 
 
 original titles of, 25. 
 
 other forms of, 32. 
 BONDS— 
 
 accounting for, 53. 
 BOUGHT AND SOLD ITEMS— 
 
 classified, 10. 
 
 CAPITAL— 
 
 discussion of, 43 ff. 
 
 how contributed, 44. 
 CAPITAL ACCOUNT— 
 
 form of, 18. 
 
 of corporation, 46. 
 
 problems of, 43. 
 
 titles of, 44. 
 
 where grouped, IT. 
 CAPITALIZATION-, 
 
 explained, 45 fi. 
 CASH ACCOUNT— 
 
 form of, 19. 
 
 relation to other accounts, 67. 
 
 substitutes for, 55. 
 
 theory of, 54. 
 CENSUS— 
 
 cost analysis in, 343. 
 CERTIFICATE— 
 
 of stock book, explained, 49. 
 CERTIFIED ACCOUNTANTS— 
 
 in various states, 7. 
 
 541 
 
542 
 
 INDEX 
 
 CHASE— 
 
 on auditing, 217. 
 CHECK— 
 
 how classed and accounted for, 
 56. 
 CITY OF KNOXVILLE WATER 
 CO.— 
 
 quoted, 437. 
 CLOSING— 
 
 explained, 35. 
 
 process of, 37. 
 COLE— 
 
 quoted, 94n. 
 COAIAIERCE— 
 
 nature of, 2. 
 COMMERCIAL LAW— 
 
 examination in, 218. 
 COMMERCIAL PAPER— 
 
 use of, 59. 
 CONSIGNMENT ACCOUNT— 
 
 explained, 73. 
 
 form of, 75. 
 CONSIGNMENTS— 
 
 discussed. 73. 
 CONTINGENT LIABILITY— 
 
 nature of. 68. 
 CONTINUOUS PROCESS INDUS- 
 TRIES— 
 
 difficulty of cost accounting in, 
 1S8. 
 CONTRACT LEDGER— (See Led- 
 ger, Contract.) 
 CORPORATION— 
 
 capital account of, 46 fif. 
 CORPORATION TAX— 
 
 discussion of, 367 ff. 
 
 regulations for administration, 
 348. 
 COST ACCOUNTING— 
 
 basis of, 139. 
 
 choice of system for, 141. 
 
 controversy as to, 144. 
 
 dangers of use, 142. 
 
 discussed, 122. 
 
 principles of, discussed, 415. 
 
 reason for, 124. 
 
 relation to general books, 128. 
 COST BOOKS— 
 
 described, 130. 
 COST KEEPING— 
 
 primer on, 387. 
 COST LEDGER— 
 
 explained, 133. 
 COSTS— 
 
 at mints, 341. 
 
 how analyzed, 136. 
 
 of statistics, 343. 
 COST SHEET— 
 
 explained, 125. 
 COST SLIP— 
 
 explained, 127. 
 CREDITOR AND DEBTOR— 
 
 (See Debtor and Creditor.) 
 
 C. P. A. CERTIFICATE— 
 explained, 222. 
 
 DAY BOOK— 
 
 explained, 26. 
 
 sample of, 29. 
 DEBTOR AND CREDITOR— 
 
 explained, 117. 
 DEBTS— 
 
 current, 264. 
 
 floating, 265. 
 
 funded. 264. 
 DEDUCTIONS— 
 
 from income under corporation 
 tax 357 
 DEFICIENCY ACCOUNT— 
 
 explained, 182. 
 
 form of, 184. 
 DEPARTMENTAL ACCOUNTS— 
 
 explained, 105 fT. 
 DEPRECIATION— 
 
 causes of, 96. 
 
 dangers of, 100. 
 
 in balance sheet, 168. 
 
 modes of accounting for, 94. 
 
 relation to "writing down," 89, 90, 
 
 reserve for, 92. 
 
 theory of, 87. 
 
 ways of estimating, 97. 
 DEPRECIATION ACCOUNT- 
 
 form of, 91. 
 DICKINSON— 
 
 quoted on balance sheet, 169. 
 DISBURSING OFFICERS— 
 
 vouchers and balances, 320. 
 DISCOUNT— 
 
 at bank, 61. 
 
 on stock, 53'. 
 DISHONORED BILLS— 
 
 how accounted for, 64. 
 DIVIDENDS— 
 
 relation to profit and loss, 160. 
 DOUBLE ACCOUNT SYSTEM— 
 
 described, 177. 
 
 form of balance sheet, 178. 
 DOUBLE ENTRY— 
 
 reason for, 24. 
 
 ECONOMICS— 
 
 relation of, to accounting. 3. 
 ENGLISH COMPANIES ACT— 
 
 requirements of, on balance sheet, 
 179. 
 EXAMINATION— 
 
 in accounting. 8. 
 
 mode of conducting, 231. 
 
 questions in accountancy, 225 ff. 
 EXPENSES— 
 
 commercial, 277. 
 
 general, 276. 
 
 FEES— 
 
 explained, 284. 
 
INDEX 
 
 543 
 
 FRAUD— 
 
 protection against, 189. 
 FUNDED DEBT— 
 
 explained, 264. 
 
 GAIN— (See Loss.) 
 GOODS ACCOUNT— 
 
 analysis of, 69. 
 
 form of, 19. 
 
 invoices of, 70. 
 
 nature of, 68. 
 
 return of, 70. 
 
 subdivisions of, in relation to 
 trading account. 80. 
 GOOD-WILL— 
 
 how accounted for, 53. 
 GOVERNMENTAL ACCOUNTS— 
 
 cost accounting of, 323. 
 
 described, 247. 
 
 new systems of, 250. 
 
 recent changes in federal, 315. 
 
 uniformity in, 252. 
 
 IMPOSTS— 
 
 how dealt with in principal ac- 
 counts, 355. 
 INCOME— 
 
 application of corporation tax, 353. 
 INCOME ACCOUNT— 
 
 explained, 151. 
 INCOME SHEET— 
 
 of railroads, 155. 
 INSURANCE— 
 
 analogy to depreciation reserve, 
 101. 
 INSURANCE COMPANIES— 
 
 corporation tax on, 354. 
 INTERSTATE COMMERCE COM- 
 MISSION— 
 
 form of balance sheet, 179. 
 INVENTORIES— 
 
 under corporation tax, 359. 
 INVENTORY— 
 
 place in bookkeeping. 38. 
 INVENTORY CLOSING— 
 
 explained, 82. 
 INVESTMENTS— 
 
 explained, 278. 
 INVOICES— 
 
 relation to goods account, 70. 
 INVOICE BOOK— 
 
 described, 35'. 
 ITEMS— 
 
 accrued, 
 
 accounting for, 163. 
 bought and sold, 10. 
 
 JOURNAL— 
 
 explained, 27. 
 
 sample of, 29. 
 
 writing up, 28. 
 JOURNALIZING— 
 
 defined, 35. 
 
 LEDGER— 
 
 classes of, 31. 
 contract, explained, 135. 
 cost, 133-137. 
 
 explained, 133. 
 illustrated, 137. 
 posting and closing, 134. 
 explained, 26. 
 general, 
 
 contents of, 116. 
 
 relation of, to cost accounting, 
 
 129. 
 stock, explained, 48, 
 LEGISLATION— 
 
 on accounting, 211. 
 LIABILITIES— (See Assets.) 
 LISLE— 
 
 on statement of affairs, 182. 
 quoted, 149. 
 
 quoted on balance sheet, 166. 
 LOSS AND GAIN— 
 
 classified, 10. 
 LOSSES— 
 
 under corporation tax, 358, 
 
 MANUFACTURING ACCOUNTS— 
 
 difficulty of cost system in, 1S8. 
 
 forms of, 115. 
 
 peculiarity of, 106. 
 
 problem of, 103. 
 MANUFACTURING COMPANIES. 
 
 corporation tax on, 354. 
 MATERIAL RECORD— 
 
 illustrated, 138. 
 MATHEMATICS— 
 
 knowledge of, in accounting, 220. 
 MERCANTILE COMPANIES— 
 
 corporation tax on, 354. 
 MINTS— 
 
 cost analysis at. 341. 
 MUNICIPAL BUSINESS— 
 
 correct methods needed, 253. 
 
 NATIONAL BANKS— 
 
 examiner's report on, 198. 
 statement of condition of, 172. 
 
 OPENING ENTRIES— 
 
 explained. 34. 
 ORGANIZATION— 
 
 of accounts, discussed, 105. 
 OVERHEAD CHARGES— 
 
 in profit and loss, 148. 
 
 PEOPLE EX REL. M. RY. CO. 
 
 V. BARKER— 
 
 quoted, 430. 
 PAY-ROLLS— 
 
 treatment of, 119. 
 PENALTIES— 
 
 under corporation tax. 365. 
 PHILOSOPHY OF ACCOUNTS— 
 
 place of, 1. 
 
544 
 
 INDEX 
 
 PLANT ACCOUNT— 
 
 described, 85, 
 explained, 83. 
 
 relation to depreciation, 87. 
 POSTING— 
 
 explained, 27, 36. 
 PREMIUM— 
 
 on stock, 53. 
 PRINTING OFFICE— 
 government, 324-341. _ 
 
 cost accounting in, 324. 
 cost system of, 328-341. 
 deficit in, 325. 
 PRIVILEGES— 
 
 explained, 283. 
 PRODUCTION ACCOUNT— 
 
 explained. 111. 
 PROFIT AND LOSS— 
 
 account, where grouped, 17. 
 development of, 20 ff. 
 how affected by discount, 63. 
 relation to "closing." 39. 
 technical aspect of, in manufactur- 
 ing, 109. 
 PROFIT AND LOSS ACCOUNT— 
 analysis of, 158. 
 classification of, 147, 148. 
 criticism on simple form of, 146. 
 ideal function of, 156. 
 illustrated, 149. 
 original form of, 145. 
 relation to revaluation, 157. 
 theory of, 144. 
 use of, 150. 
 PROPERTY ACCOUNT— (See Plant 
 
 Account.) 
 PROPRIETORS— 
 
 accounts of, 245. 
 PURCHASES ANALYSIS BOOK— 
 
 illustrated, 119. 
 PURCHASES BOOK— 
 explained, 30. 
 
 RECEIPTS— 
 
 explained, 284. 
 
 ordinary and extraordinary, 291. 
 RECKITT— 
 
 on principles of cost accounting, 
 415. 
 RENT ACCOUNT— 
 
 form of, 20. 
 RESERVE— 
 
 for depreciation, 93. 
 
 governmental, 274. 
 REVENUE— 
 
 analyzed, 278. 
 
 on balance sheet, 175. 
 
 SAKOLSKI— 
 
 on corporation tax, 367. 
 SALES BOOK— 
 
 explained, 30. 
 
 SELLING— 
 
 accounts of, in manufacturing, 113. 
 SINGLE ACCOUNT SYSTEM— 
 (See Double Account System.) 
 STATEMENT OF AFFAIRS— 
 
 explained, 181. 
 
 form of, 182. 
 STATISTICS— 
 
 cost of, 343. 
 
 how obtained, 251. 
 
 of costs, 14S'. 
 
 relation to accounting, 144. 
 STOCK— 
 
 certificate of, 49. 
 
 in treasury, 49. 
 
 issued at premium or discount. S3. 
 
 issues of, 48. 
 
 ledger, 48. 
 
 payment for, 50. 
 STOCK LEDGER— 
 
 explained, 48. 
 STORES ISSUED BOOK— 
 
 explained, 120. 
 SUMMARIES— 
 
 accounting, 295 ff. 
 SURPLUS ACCOUNT—. 
 
 service of, 93. 
 
 TAXES— 
 
 analyzed, 281. 
 TELEPHONE COMPANY— 
 
 accounts of, explained, 494. 
 TERMINOLOGY— 
 
 improvement needed in account- 
 ing, 254. 
 TRADING ACCOUNT— 
 
 explained. 78. 
 TRANSFERRING— 
 
 explained, 37. 
 TRANSPORTATION 
 
 COMPANIES^ 
 
 corporation tax on, 354. 
 TREASURY— 
 
 accounting of, 317. 
 TRIAL BALANCE— 
 
 explained, 36. 
 
 significance of, 165. 
 TRUSTEES— 
 
 accounts of, 245. 
 TRUSTS— 
 
 explained, 265. 
 
 UNIFORMITY— 
 
 in accounts, 252. 
 UNIT COST— 
 
 problem of, 138. 
 
 VOUCHERS— 
 
 of disbursing officers, 320. 
 
 WAGES— . , 
 
 use of pay-rolls in accounting tor, 
 11$. 
 
INDEX 
 
 WILCOX ET AL. V. CONSOLI- 
 DATED GAS CO.— 
 quoted, 448. 
 
 WRITING DOWN"- 
 criticism of, 90. 
 explained, 86. 
 
 M5 
 
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